The Monopolistic competition Is a market structure characterized by many companies that sell similar but not identical products, so that companies compete for factors other than price. Monopolistic competition is sometimes called imperfect competition, because the structure of the market is between pure monopoly and pure competition.
Economic efficiency is also moderate. Competitive markets offer efficient results, monopoly markets show deadweight losses - monopolistic competition is somewhere in between, not as efficient as pure competition but less loss of efficiency than a monopoly. The main benefit of monopolistic competition is the provision of a wide variety of goods and services.
Millionaires dividing the country. Described in the painting are William Henry Vanderbilt, Jay Gould, Cyrus West Field, Russell Sage. Frederick Burr Opper (1857-1937).
The monopolistic competition model describes a common market structure in which companies have many competitors, but each sells a slightly different product. Monopolistic competition as a market structure was first identified in the 1930s by the American economist Edward Chamberlin and the English economist Joan Robinson.
Many small businesses operate under conditions of monopolistic competition, including independent shops and restaurants. In the case of restaurants, each offers something different and has an element of uniqueness, but all are essentially competing for the same customers.
Monopolistically competitive markets have the following characteristics:
- Each company makes independent pricing and production decisions, based on its product, market, and production costs.
- Knowledge is widely spread among participants, but is unlikely to be perfect. For example, diners can review all available restaurant menus in a city before they make their choice. Once inside the restaurant, you can see the menu again, before ordering. However, they can not fully appreciate the restaurant or the food until after they have dined.
- The entrepreneur has a more important role than in companies that are perfectly competitive due to the greater risks associated with decision making.
- There is freedom to enter or leave the market, as there are no major barriers to entry or exit.
- A central feature of monopolistic competition is that the products are differentiated. There are four main types of differentiation:
- Physical differentiation Of the product, where companies use the size, design, color, shape, performance and features to make their products different. For example, consumer electronics can easily be physically differentiated.
- Marketing Differentiation , Where companies try to differentiate their product by distinctive packaging and other promotional techniques. For example, breakfast cereals can be easily differentiated through packaging.
- Differentiation of human capital , Where the company creates differences through the skill of its employees, the level of training received, distinctive uniforms, etc.
- Differentiation through distribution , Including distribution through mail or Internet shopping, such as Amazon.com, which differs from traditional bookstores or department stores selling online.
Companies that operate under monopolistic competition usually have to resort to advertising. Firms are often in fierce competition with other (local) companies that offer a similar product or service and may need to advertise locally so that customers are aware of their differences.
The most common advertising methods for these companies are through social networks, local press, radio, local cinema, posters, brochures and special promotions.
Monopolistically competitive firms are supposed to be profit-maximizing because firms tend to be small and entrepreneurs actively participate in business management.
In the short term, extraordinary benefits are possible, but in the long run, new companies are attracted to the industry, due to low entry barriers, good knowledge and the opportunity to differentiate.
Where does monopoly competition exist?
There is a monopolistic competition:
- Where there are a large number of sellers, each with a small market share;
- Where there is little interdependence between companies so that they can quote their product without taking into account the reaction of the competition;
- Where there is little possibility of collusion to fix prices.
Companies have some control over price, but are limited by the close substitution of similar products.
Monopolistic competition can not exist unless there is at least a perceived difference between products provided by industry firms. The main tool of competition is the differentiation of products, which results from differences in product quality, location, service and advertising.
The quality of the product may differ in function, design, materials and workmanship. The location is usually a good differentiator of products. In general, companies that are more conveniently located may charge higher prices. Similarly, stores that have extended hours also provide convenience.
For example, if cold medicine is needed in the middle of the night, you can go to a 24-hour pharmacy to buy the drug, even at a higher price, as immediate relief is desired. Services include availability time, the company's reputation for service or product exchange, and service speed.
There are many examples of product differentiation in modern economies. The restaurants serve different items on the menu at different prices in different locations, thus providing different degrees of local time and utility. Furniture stores sell different types of furniture made from different materials such as oak, walnut, maple, etc.
Clothing retailers sell different types of clothing at different prices, where people pay not only for their good workmanship, but also for items that suit their taste. Books are an excellent example of monopolistic competition because they vary in price, quality of labor, readability, quality of illustrations or their absence, and differ according to the target audience and themes, such as textbooks and university novels.
Each major category will have many smaller categories and smaller categories will also be distinguished by the authors' writing styles.
A new front of monopolistic competition occurs among online retailers. In this case, your location does not really matter. What matters is the convenience of buying online, how well products and product recommendations are described by consumers who actually bought the product. Other important qualities include company reliability and return policies.
Easy entry and exit
Since most companies that participate in monopolistic competition have low capital requirements, companies can enter or exit the market easily.
However, the amount of investment is generally greater than that used for pure competition, since there is an expense to develop differentiated products and advertising expenses. One of the main features of monopolistic competition is the constantly changing range of competing products on the market.
Companies must continuously experiment with products, prices and advertising to see which produces the most benefit. Although this leads to inefficient production and allocation, the variety of goods offered outweighs this inefficiency.
With ease of entry and exit, companies will enter a market in which current companies are making economic gains and will leave the market when companies are losing money, allowing the remaining companies to obtain a normal profit.
Because all products have the same purpose, there are relatively few options for marketers to differentiate their offerings from other companies. There may be"discount"varieties that are of lower quality, but it is hard to say if the higher priced options are actually better.
This uncertainty results from imperfect information: the average consumer does not know the exact differences between the different products, nor what is the fair price for any of them. Monopolistic competition tends to lead to heavy commercialization, because different firms need to distinguish widely similar products.
A company could choose to lower the price of its cleaning product, sacrificing a higher profit margin in exchange for higher sales. Another could take the opposite route, raising the price and using packaging that suggests quality and sophistication. A third party could sell itself as more eco-friendly, showing a seal of approval from an environmental watchdog.
Monopolistic competition implies that there are enough companies in the industry and that the decision of a company does not trigger a chain reaction. In an oligopoly, a price reduction by a company can trigger a price war, but it is not the case of monopolistic competition.
Advertising and Brands
Where there are only small differences between products, differentiation of the product would not be useful unless it could be communicated to the consumer. This communication is achieved through advertising, brand names and packaging, which are forms of competition without prices, as they force consumers to pay a higher price if they perceive, with or without reason, that quality is higher.
Advertising serves to inform customers of differentiated products and why they are superior about close substitutes. Even if there are no differences, as is often the case between brand names and national brands, or between a brand name drug and its generic, a consumer may prefer one brand over another because of advertising.
The mark serves to distinguish identical or almost identical products and to increase the value of advertising in which the brand name serves as an object to which desirable characteristics may be associated. Advertising is used to create brand awareness or loyalty to a particular company.
Advertising can also be used to build the image of a brand, which can be associated with a lifestyle, or words or images that people associate with the brand, rather than describing the specific characteristics of the product itself. This type of advertising is often used for products that are mostly differentiated by the personal taste of consumers, such as soft drink advertising.
The mass drag effect is also often used, and is given when advertising tries to convey that more people prefer a particular brand. It uses a lot of celebrity image this kind of advertising.
The main benefit of brand names for consumers is that it allows them to easily identify the product and brands are well protected by law, and thus competing companies can not fool customers by closely mimicking an established brand.
On the other hand, trademarks give an incentive for the firm to maintain product quality so that the brand continues to be perceived as being of great value by consumers. Advertising also helps companies increase market share and build awareness of a brand.
Advertising can help a company increase the amount of production, which generally leads to lower prices, as fixed costs are spread over a larger amount of product. Advertising allows new businesses to attract customers who buy competitive products, thus allowing easier entry of new firms. Advertising also informs customers of price differences so they can buy at lower prices.
In the past, professional firms, such as doctors and lawyers, were prohibited from advertising prices because it was argued that it was unprofessional. However, the courts decided that the real reason was to limit competition, so they overturned the many state laws that banned these forms of advertising. However, advertising has its critics.
Advertising often does not convey true information, or it transmits misleading information, causing consumers to buy products that do not meet their interests. Even comparisons with competing products are often misleading. Some people argue that if a company is willing to spend a lot of money on advertising, they will have an incentive to maintain good quality so that people continue to buy the product.
However, many products and services are marketed even if they are not in the best interest of the consumer, such as debt consolidation services. In addition, it is difficult to compare many products or services directly, since the benefits and costs are not directly observable before buying, such as services provided by professionals such as doctors, dentists or lawyers.
Many people also pay more money for identical products because of advertising. Similarly, people often buy brand-name drugs over generics, even though generics are equally effective. Advertising has its advantages and disadvantages, but it will remain one of the primary tools of monopolistically competitive companies.
Elasticity of demand
Due to the range of similar offers, demand is highly elastic in monopolistic competition. In other words, demand is very sensitive to price changes.
In the short term, companies can make excess economic benefits. However, because entry barriers are low, other firms have an incentive to enter the market, increasing competition, until the overall economic benefit is zero.
Keep in mind that the economic benefits are not the same as the accounting benefits; A company that posts a positive net profit may have zero economic benefit, since it incorporates the opportunity costs.
Examples of monopolistic competition
Companies with monopolistic competence are more common in industries where differentiation is possible, such as:
- Hotels and Bars
- General retail
- Consumer services such as hairdressers
The advantages of monopolistic competition
Monopolistic competition can provide the following advantages:
- There are no significant barriers to entry.
- Differentiation creates diversity, choice and utility. For example, a typical main street in any city will have a number of different dining options to choose from.
- The market is more efficient than monopoly but less efficient than perfect competition - less efficient and productively less efficient. However, they can be dynamically efficient, innovative in terms of new production processes or new products. For example, retailers often constantly have to develop new ways of attracting and retaining local consumers.
The disadvantages of monopolistic competition
There are several potential disadvantages associated with monopolistic competition, including:
- Some differentiation does not create utility but generates unnecessary waste, such as overpacking. Advertising can also be considered a waste, although most are informative and non-persuasive.
- Assuming profit maximization, there is an allocation inefficiency in both the long and the short term. This is because the price is above the marginal cost in both cases. In the long run, the company is less inefficient, but still inefficient.
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