Download Monopolistic Competition

Monopolistic
Competition
CHAPTER OUTLINE
I. Describe and identify monopolistic competition.
A. Large Number of Firms
1. Small Market Share
2. No Market Dominance
3. Collusion Impossible
B. Product Differentiation
C. Competing on Quality, Price, and Marketing
1. Quality
2. Price
3. Marketing
D. Entry and Exit
E. Identifying Monopolistic Competition
1. The Four-Firm Concentration Ratio
2. The Herfindahl-Hirschman Index
3. Limitations of Concentration Ratios
Chapter
15
2. Explain how a firm in monopolistic competition determines its output and
price in the short run and the long run.
A. The Firm’s Profit-Maximizing Decision
B. Profit Maximizing Might Be Loss Minimizing
C. Long Run: Zero Economic Profit
D. Monopolistic Competition and Perfect Competition
1. Excess Capacity
2. Markup
E. Is Monopolistic Competition Efficient
1. Deadweight Loss
2. Making the Relevant Comparison
3. The Bottom line
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3. Explain why advertising costs are high and why firms use brand names in
monopolistic competition.
A. Innovation and Product Development
1. Cost Versus Benefit of Product Innovation
2. Efficiency and Product Innovation
B. Advertising
1. Advertising Expenditures
2. Selling Costs and Total Costs
3. Selling Costs and Demand
C. Using Advertising to Signal Quality
D. Brand Names
E. Efficiency of Advertising and Brand Names
 What’s New in this Edition?
Chapter 15 has been up-dated. The point that the maximum
loss a firm will suffer is equal to its fixed cost is now made
explicit.
 Where We Are
In this chapter, we examine another market structure, monopolistic competition. The profit-maximizing quantity and
price is discussed. The chapter shows why firms in monopolist competition decide to advertise, use brand names, and
develop new products.
 Where We’ve Been
The previous chapters studied perfectly competitive firms
and monopoly firms. The material dealing with monopoly is
used in this chapter because monopolistic competition is
similar in some regards to monopoly.
 Where We’re Going
The next chapter covers the last industry structure, oligopoly. Then Chapter 17 studies how the government chooses to
regulate monopolies and antitrust law. The material in
Chapter 17 primarily uses results from Chapter 13, on perfect competition, and Chapter 14, on monopoly.
Chapter 15 . Monopolistic Competition
IN THE CLASSROOM
 Class Time Needed
You can complete this chapter in one and half to two sessions. By this point the
students are familiar with the diagrams illustrating how firms in monopolistic
competition select their profit-maximizing price and quantity, so be sure to point
out this similarity. Use two sessions if you have students who will be majoring in
business disciplines because the material on advertising and brand names will be
helpful to them.
An estimate of the time per checkpoint is:

15.1 What is Monopolistic Competition?—10 to 15 minutes

15.2 Output and Price Decisions—40 to 50 minutes

15.3 Product Development and Marketing—10 to 25 minutes
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CHAPTER LECTURE
15.1
What is Monopolistic Competition?
Monopolistic competition is a market structure in which
 A large number of firms compete. Each firm has a small market share and collusion is
impossible.
 Each firm produces a differentiated product. Product differentiation means that each
firm makes a product that is slightly different from the products of competing firms.
Some people will pay more for one variety of a product, so the demand curve for the
firm’s product is downward sloping.
 Firms compete on product quality, price, and marketing.
 Firms are free to enter and exit the market.
Identifying Monopolistic Competition
There are two measures of market concentration used to help identify whether a market is competitive or dominated by a small number of firms:

The four-firm concentration ratio is the percentage of the total revenue accounted for
by the four largest firms in the industry. The four-firm concentration ratio ranges between near 0 (extremely competitive) to 100 (not very competitive).

The Herfindahl–Hirschman index (HHI) is the square of the percentage market share of
each firm summed over the largest 50 firms (or summed over all the firms if there are
fewer than 50) in a market. The HHI ranges between near 0 (extremely competitive) to
10,000 (a monopoly).
 The U.S. Justice Department uses the HHI to classify markets:
 Markets with an HHI of less than 1,000 are regarded as highly competitive
 Markets with an HHI of between 1,000 and 1,800 are regarded as moderately
competitive.
 Markets with an HHI above 1,800 are regarded as concentrated.

Concentration ratios have two major limitations:
 Geographic Scope of the Market: Concentration ratios define the market as the entire
United States, but the relevant market might be smaller than the entire nation (newspapers, for which the market is a city) or larger than the entire nation (automobiles,
for which the market is the entire world).
 Barriers to Entry and Firm Turnover: For some industries, a few firms might be currently operating in the market but competition in these industries might be fierce, with
firms regularly entering and exiting the industry.
Ford Motor Company advertises that it is the largest seller of pickup trucks in the United
States. Should we be concerned that Ford might have too much market power in that area
of the market? Ask the students to consider identifying what would be an appropriate definition for the “market” such that a proper market concentration measure might be calculated. Should only pickup trucks be included? Or should all cars and trucks be considered
as possible substitutes? How about minivans and/or SUVs?
Chapter 15 . Monopolistic Competition
15.2
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Output and Price Decisions
The Firm’s Profit-Maximizing Decisions
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In the short run, a monopolistically
competitive firm makes its output and
price decisions just like a monopoly
firm. The figure shows a monopolistically competitive firm’s downward sloping
demand curve and the downward sloping MR curve that lies below the demand curve.
The firm maximizes its profit by producing the quantity where MR = MC and
using the demand curve to set the highest price at which people will buy the
quantity it produces. In the figure, the
firm produces 20 pizzas per hour and
sets a price of $16 per pizza.
The firm in the figure earns an economic
profit because P > ATC. The amount of
the economic profit is equal to the area of the darkened rectangle.
If P < ATC, the firm incurs an economic loss. The firm will shut down if P < AVC, so the
maximum loss the firm will incur is equal to its fixed costs.
Long Run: Zero Economic Profit


Unlike a monopoly, firms in monopolistic competition cannot earn economic profit in the long run. If the firms are
earning an economic profit, other firms
enter the market. Entry continues as
long as firms in the industry earn an
economic profit. As firms enter, each
existing firm loses some of its market
share. The demand for each firm’s
product decreases and the firm’s demand curve shifts leftward.
Eventually the demand decreases
enough so that the firms earn only a
normal profit, where P = ATC. Entry
then stops. This outcome is illustrated
in the figure, in which the firm produces 13 pizzas per hour (where
MR = MC ) and sets a price of $12 per pizza.
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Monopolistic Competition and Perfect Competition
Unlike firms in perfect competition, firms in monopolistic competition have excess capacity and a
markup:
 Excess Capacity: A firm has excess capacity if it produces less than the quantity at which
average total cost is a minimum. The quantity at which average total cost is a minimum
is the efficient scale. A firm in perfect competition produces at the efficient scale but, as
the figure above shows, a firm in monopolistic competition produces less than the efficient scale of output.
 Markup: A firm’s markup is the amount by which its price exceeds its marginal cost. A
firm in perfect competition has no markup but, as the figure above shows, a firm in monopolistic competition has a markup.
Is Monopolistic Competition Efficient?
Firms in monopolistic competition have higher costs than firms in perfect competition, but firms
in monopolistic competition produce variety, which is valued by consumers. So compared to the
alternative of complete uniformity, monopolistic competition is efficient.
15.2
Output and Price Decisions
Innovation and Product Development
Monopolistically competitive firms compete through product development and marketing. New
product development allows a firm to gain a temporary competitive edge and economic profit
before competitors imitate the innovation. A firm decides upon the extent of innovation and
product development by comparing the marginal cost of innovation or product development to
its marginal revenue.
Advertising
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
Advertising and packaging allow a firm to differentiate its product. Firms in monopolistic competition incur heavy advertising expenditures which make up a large portion of
the price it charges for the product.
Selling costs, such as advertising, are fixed costs that increase the ATC at any given level
of output but do not affect the MC. Advertising efforts are successful if they increase demand, which can lead to increased profit. But if all firms advertise, more firms might
survive and so the demand for any one firm is less than otherwise.
Heavy marketing and advertising expenditures are a signal to consumers of a highquality product. A signal is an action taken by an informed person (or firm) to send a
message to uninformed people.
Brand Names
Monopolistically competitive spend a lot of money to promote brand names. A brand name gives
consumers information about the product quality.
 Advertising and creating brand names are expensive. To the extent that they provide the
consumer with valuable information, they are a benefit of monopolistic competition. But
in some instances it seems as if the cost exceeds the benefit. So, ultimately the total efficiency of monopolistic competition is ambiguous.
Chapter 15 . Monopolistic Competition
 Lecture Launchers
1.
Students have no difficulty seeing monopolistic competition in the world
all around them. Emphasize that the work they’ve just done understanding
the models of perfect competition and monopoly are not wasted because
the real-world situation of monopolistic competition, as its name implies, is
a mixture of both extremes. Some of what they learned in each of the two
previous chapters survives and operates in the middle ground of monopolistic competition.
2.
Product differentiation is the heart of the difference between monopoly and
competition. After listing the characteristics of monopolistic competition
and securing suggested examples of firms in monopolistic competition, you
can get your students to suggest how, if they ran a small coffee shop, they
could attract more customers than their competition. Or, discuss more generally in what ways can producers in a monopolistically competitive market
increase the demand for their product? Consider grocery stores: they have
little latitude on prices as their markup is so small, so to build sales they attract customers in what ways? Some methods include friendliness, advertising loss-leaders, attractiveness of displays, speed, signage, perhaps even
clean restrooms!
 Land Mines
1.
While students have gotten familiar with the demand, marginal revenue,
and marginal cost curves over the past two chapters, still take the time to
point out the curves as you draw them. Use actual numbers for quantity
and price.
2.
Unlike the case of perfect competition, the demand curve for a firm’s differentiated product in monopolistic competition is downward sloping. Remind the students about the ceteris paribus condition that defines a demand curve. Along the demand curve for Nike tennis shoes, the prices of
Adidas, Fila, Head, K Swiss, Prince, Reebok, and Wilson tennis shoes are
constant. Some people prefer Nike to the other brands and will pay a bit
more for Nike. Other people prefer some other brand and will buy Nike only if its price is low enough. Buyers have brand preferences, but they will
switch brands if price differences are large enough. So the higher the price
of a Nike shoe, the prices of the other brands remaining the same, the
smaller is the quantity of Nike shoes demanded.
3.
Students seem to have a bit of trouble appreciating that entry and exit
change the demand for a firm’s product. Explain this effect by sticking with
the tennis shoes example. Explain that the demand for Nike tennis shoes
changes and the demand curve for Nike tennis shoes shifts if other firms
enter or exit. If Tommy Hilfiger and the Gap started to make tennis shoes,
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some of Nike’s former customers would switch to these two new brands,
and the demand for Nike shoes would decrease. The demand curve for Nike shoes would shift leftward. If Adidas, Fila, and Reebok stopped making
tennis shoes, some of their former customers would switch to Nike, and the
demand for Nike shoes would increase. The demand curve for Nike shoes
would shift rightward.
Chapter 15 . Monopolistic Competition
ANSWERS TO CHECKPOINT EXERCISES
 CHECKPOINT 15.1 What Is Monopolistic Competition?
1a. The firms and the percentage of their total revenue shares are Truffles (30
percent), Bond (20 percent), Mayfair (15 percent), All Nature (15 percent),
Gold (15 percent), and Magic (5 percent). The four largest are Truffles,
Bond, and then two of Mayfair, All Nature, and Gold. The four-firm
concentration ratio is 30 + 20 + 15 + 15, which is 80.
1b. The HHI equals 302 + 202 + 152 + 152 + 152 + 52 = 2,000.
1c. Based on the four-firm concentration ratio and the HHI, the chocolate industry is an oligopoly.
1d. If firms in the chocolate industry face competition from foreign suppliers,
the industry is more competitive than the four-firm concentration ratio and
HHI suggest. In this case the industry might be monopolistic competition.
1e. To be sure that the industry is monopolistic competition, we need to know
the extent to which firms engage in product differentiation, whether firms
are free to enter and exit, and the extent to which firms compete on product
quality, price, and marketing.
2.
The new technology lowers the barriers to entry. Most likely there would be
entry of new firms, so there would be greater product differentiation and
fiercer competition on product quality, price, and marketing.
 CHECKPOINT 15.2 Output and Price Decisions
1a. Lorie maximizes profits by producing 10 racquets. (Marginal cost is $15 a
racquet. Marginal revenue between zero and 10 racquets is $20 and between 10 and 20 racquets is $10, so marginal revenue equals $15 at 10 racquets.) Lorie’s charges $20 a racquet, which is the price from the demand
curve for the 10th racquet a month. Lorie’s average fixed cost is $100 ($1,000
÷ 10) and average variable cost (marginal cost) is $15 a racquet. Average total cost is $115 a racquet. Lorie incurs an economic loss of $20  $115, which
is $95 a racquet.
1b. Firms will not enter; Firms will exit the restringing business.
1c. In the long run, the demand for Lorie’s restringing business will increase if
she stays in the market.
1d. In the long run, Lorie will earn zero economic profit. Lori will either leave
the industry or if she remains open, the demand for her services increases
as other firms leave and she earns normal profit.
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 CHECKPOINT 15.3 Product Development and Marketing
1a. The increase in demand will increase the number of cookies sold and most
likely increase the price she charges. (The effect on the price depends on the
precise manner in which the demand curve shifts, but most likely her price
will rise.) Her economic profit will increase.
1b. If additional advertising enables sales to increase so that total revenue increases more than total cost, she can increase economic profit.
Chapter 15 . Monopolistic Competition
ANSWERS TO CHAPTER CHECKPOINT EXERCISES
1a. The cable television market is not an example of monopolistic competition.
1b. The wheat market is not an example of monopolistic competition.
1c. The athletic shoe market is an example of monopolistic competition. There
are several producers of athletic shoes, with extensive product differentiation and competition on quality, price, and marketing.
1d. The soda market is not an example of monopolistic competition.
1e. The shaving cream market is an example of monopolistic competition.
There are several producers of shaving cream, with product differentiation
and competition on quality, price, and marketing.
1f. The toothbrush market is an example of monopolistic competition. There
are many producers of toothbrushes, with extensive product differentiation and competition on quality, price, and marketing.
1g. The ready-mix concrete market is not an example of monopolistic competition.
2.
The audio equipment market is an example of monopolistic competition.
3a. Lite and Kool produces 125 pairs of shoes a week because this is the quantity at which marginal revenue equals marginal cost.
3b. Lite and Kool charges a price of $75 a pair of shoes.
3c. Lite and Kool’s price is $75 a pair of shoes and its marginal cost is $50 a
pair of shoes. So, Lite and Kool’s markup is $75 a pair of shoes  $50 a pair
of shoes, which is $25 a pair of shoes.
3d. Lite and Kool’s price is $75 a pair of shoes and its average total cost is $35 a
pair of shoes. So Lite and Kool makes an economic profit of $75 a pair of
shoes  $35 a pair of shoes, which is $40 a pair of shoes. Lite and Kool produces 125 pairs of shoe a week, so its weekly economic profit is $40  125,
which is $5,000 a week.
3e. Firms in monopolistic competition do not always have excess capacity in
the short run.
3f. Lite and Kool does not have excess capacity. Its efficient scale, where its
average total cost is at its minimum, is less than 125, so Lite and Kool is
producing beyond its efficient scale.
3g. Firms enter the market because the existing firms, of which Lite and Kool
is one, are earning an economic profit.
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4a. Figure 15.1 illustrates Stiff Shirt’s demand
curve, marginal revenue curve, average total
cost curve, and marginal cost curve. Stiff Shirt
produces 100 shirts a week because this is the
quantity at which marginal revenue equals
marginal cost.
4b. Stiff Shirt charges a price of $85 a shirt.
4c. Stiff Shirt’s price is $85 a shirt and its marginal cost is $70 a shirt. So, Stiff Shirt’s markup is
$85 a shirt  $70 a shirt, which is $15 a shirt.
4d. Stiff Shirt’s economic profit equals the area of
the gray rectangle in Figure 15.1 Stiff Shirt’s
price is $85 a shirt and its average total cost is
$75 a shirt. So Stiff Shirt makes an economic
profit of $85 a shirt  $75 a shirt, which is $10
a shirt. Stiff Shirt produces 100 shirts a week,
so its weekly economic profit is $10  100,
which is $1,000.
4e. Stiff Shirt has excess capacity. Its efficient scale is greater than 100, so Stiff
Shirt is producing less than its efficient scale.
4f. If Stiff Shirt increased its production, its average total cost would fall.
4g. Stiff Shirt does not increase its production because to do so would decrease
its economic profit.
4h. Stiff Shirt is earning an economic profit, so firms will enter the market.
4i. As more firms enter the market, the demand
for shirts from Stiff Shirt decreases and the
price of a shirt falls.
5a. Figure 15.2 illustrates La Bella’s demand
curve, marginal revenue curve, average total
cost curve, and marginal cost curve. La Bella
produces 75 pizzas a day because this is the
quantity at which marginal revenue equals
marginal cost.
5b. La Bella charges a price of $15 a pizza.
5c. La Bella incurs an economic loss equal to the
area of the gray rectangle in Figure 15.2 La
Bella’s price is $15 a pizza and its average total cost is $16 a pizza. So La Bella makes an
economic profit of $15 a pizza  $16 a pizza,
which is $1 a pizza, that is, La Bella incurs an
economic loss of $1 a pizza. La Bella produces
Chapter 15 . Monopolistic Competition
75 pizzas a day, so its economic loss is $1  75, which is $75 a day.
5d. La Bella is producing less than its efficient scale, so La Bella has excess capacity.
5e. La Bella has a price markup because its price exceeds its marginal cost.
5f. La Bella is incurring an economic loss, so firms will exit the market.
5g. As firms exit the market, the price of a pizza rises.
6a. Bob produces 75 burgers a day because this is the quantity at which marginal revenue equals marginal cost.
6b. Bob charges a price of $3 a burger.
6c. Bob’s price is $3 a burger and his average total cost is $3 a burger. So Bob
makes zero economic profit.
6d. Other firms will not enter the burger industry because the firms, of which
Bob is one, are earning zero economic profit, that is, they are earning normal profit.
6e. Bob is producing less than his efficient scale, so Bob has excess capacity.
6f. Bob has a price markup because price exceeds marginal cost.
7a. Jeb is the wheat farmer. The market for wheat is perfectly competitive and,
in the long run, firms in a perfectly competitive market produce at minimum average total cost. Jeb said that if he changed his production, his average total cost would increase, which means that Jeb is producing at minimum average total cost. George runs the diner. Restaurants are in a monopolistically competitive market. Firms in monopolistic competition have
excess capacity, which means that if they increase output, average total
cost would fall, which is what George described.
7b. Jeb, the wheat farmer, is producing as efficiently as possible because he is
minimizing his average total cost. Firms in perfect competition are efficient. George is not producing as efficiently as possible because he could
lower his average total cost if he produced more. Firms in monopolistic
competition have excess capacity.
7c. Though the conversation does not bear directly on economic profit, firms
in a competitive market—be it perfect competition or monopolistic competition—earn zero economic profit in the long run.
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8a. Figure 15.3 shows Mike’s situation with no advertising. Mike produces 500
pairs of shoes a day, determined by the intersection of the MR curve and
MC curve and sets a price of $100 a pair of running shoes.
8b. Figure 15.4 shows Mike’s situation with advertising. Relative to the noadvertising situation in Figure 15.3, Mike’s average total cost is higher at
every level of output. The demand for Mike’s shoes has increased and the
demand curve and marginal revenue curve have shifted rightward. Mike
now produces 1,000 pairs of shoes a day, the quantity at which the marginal cost curve and new marginal revenue curve intersect. Mike sets a
price of $50 a pair of running shoes.
8c. Mike’s markup is larger in the no-advertising situation.
8d. Mike has more excess capacity in the no-advertising situation.
9a. No, the behavior does not mean that these people are irrational. They value the benefits provided by the name brand enough to buy the higherpriced, branded product.
9b. Brand names signal the consumer that a good or service has a high and
consistent quality.
9c. Brand names give the producer the incentive to keep the quality of the
good or service high and consistent.
9d. Brand names are efficient if the benefits of brand names exceed the costs of
creating and maintaining brand names. In this case, banning brand names
leads to inefficiency.
Chapter 15 . Monopolistic Competition
 Critical Thinking
10. Advertising and brand names have costs and benefits. Both advertising
and establishing a brand name are costly endeavors. But these costs must
be weighed against the benefits. For instance, some advertising provides
consumers with valuable information. And, brand names signal the consumer that a good or service has a high and consistent quality. Brand
names also give the producer the incentive to keep the quality of the good
or service high and consistent. If the benefits of advertising and brand
names exceed the costs, then they are beneficial to society.
11a. Students’ favorite commercials will vary from one student to the next.
11b. Most advertisements have some signaling aspect to them, especially those
that are most entertaining. So it will be a rare student whose favorite
commercial has no signal.
11c. Advertisements increase the producer’s profit by influencing the demand
for the product and the costs of producing the product. If the advertisement increases the demand sufficiently, the firm’s profit increases. Indeed,
if demand increases enough, the average total cost of the good or service
falls, which can further increase the producer’s profit.
11d. The benefit of each advertisement will vary from one student to the next.
Keep in mind that if the advertisement helps create or maintain a brand
name, the advertisement reminds the consumer of the high and consistent
quality of the product, which benefits the consumer. And the advertisement gives the producer the incentive to keep the product’s quality high
and consistent, which also benefits the consumer.
11e. The advertisement can create a deadweight loss to the extent to which it
stifles competition. And the fewer the number of firms in the market, the
closer the output is to the monopoly output and the greater the
deadweight loss.
12a. Xerox does not want its brand name to be applied to all copiers because
Xerox has spent a great deal of money advertising the high quality of its
copiers. Xerox is concerned that consumers will come to think that the
quality of its copies is the same as that of its competitors.
12b. Consumers benefit to the extent that Xerox continues to spend resources
ensuring that the quality of its copiers remains high and consistent.
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 Web Exercises
13a. The items picked by your students will vary from one student to the next.
13b. The items picked by your students will vary from one student to the next.
13c. The crucial point of explanation is that for the items selected as examples
of monopolistic competition (the answer to part (a)), the four-firm concentration ratio should be less than 40 and the HHI be less than 1,800 though
less than 1,000 is preferable. And, for items selected as examples that are
not monopolistic competition, the four-firm concentration ratio should exceed 60 and the HHI should be greater than 1,800.
14a. The item and the price will vary from one student to the next.
14b. The item and the price will vary from one student to the next.
14c. The answer will vary from one student to the next. In general, the expectation is that the high-price source offers a higher quality buying experience.
For instance, the high-price source might be one that is more well known
than the low-price source, so the shopper can feel more secure that the
item will be delivered if he or she buys from the high-price source.
14d. The students’ answers will vary from one student to another. Those who
buy from the high-price source must be able to point to some attribute that
more than compensates for the higher price they would pay.
15a. Brand names benefit both the buyer and the seller. But unscrupulous people have taken to counterfeiting brand name merchandise. Counterfeiting
harms consumers because they are not getting what they believe they are
getting, namely an assurance of quality. In addition, if a consumer purchases an inferior quality counterfeit brand name product, the consumer is
unable to complain to anyone about the poor quality. So be prudent about
buying potentially counterfeited products.
15b. The article generally does a good job in identifying the benefits of brand
names. The article states: “The owner of a brand uses it to insure that customers recognize the source of the product and that it is an indication of a
consistent level of product's quality. Consumers can rely on a given brand
to indicate the nature and quality to which he/she has become accustomed.” The article misses the idea that producers who brand their products will strive to insure that the quality of the products remains high and
consistent.
15c. The article is generally correct in its identification of the benefits to consumers. The article points out that “Consumers can rely on a given brand
to indicate the nature and quality to which he/she has become accustomed.”
Chapter 15 . Monopolistic Competition
16. The brand-naming service offers to create brand names “based on the principles of linguistic morphology.” The service asserts “The right brand
name makes consumers and other businesses want to use your product or
associate with your company. The right brand name is what consumers
remember when they want to use your product again.” It’s unclear how a
particular brand name can lead to a consumer wanting to use a particular
product, so this claim seems overblown. It is, however, correct that consumers must remember the brand name to buy the same product once
again, so the second claim has some validity. The service also asserts that
“A successful trade name should be instantly recognizable,” which also
has validity. Essentially, a brand name will not have the benefits ascribed
to it in this chapter unless consumers can remember the brand name and
the product to which it is affixed.
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ADDITIONAL EXERCISES FOR ASSIGNMENT
 Questions
 CHECKPOINT 15.1 What Is Monopolistic Competition?
1. How would a merger between Pizza Hut and Papa Johns affect the fourfirm concentration ratio for the home delivery pizza market? How would it
affect the Herfindahl-Hirschman Index for the home delivery pizza market?

2.
CHECKPOINT 15.2 Output and Price Decisions
Draw an example of a firm in monopolistic competition that is incurring an economic loss. Be
sure to label all the curves. Indicate the area that equals the firm’s economic loss.

3.
CHECKPOINT 15.3 Product Development and Marketing
Explain how selling costs in monopolistic competition affect the efficiency of monopolistic
competition.
 Answers

1.
CHECKPOINT 15.1 What Is Monopolistic Competition?
Both Pizza Hut and Papa Johns are two of the three largest firms in the
home delivery pizza market. So a merger between Pizza Hut and Papa
Johns would raise the four-firm concentration ratio and raise the Herfindahl-Hirschman Index.

2.
CHECKPOINT 15.2 Output and Price Decisions
Figure 15.5 illustrates a firm in monopolistic
competition that is incurring an economic loss.
The economic loss equals the area of the gray
rectangle.
Chapter 15 . Monopolistic Competition

3.
CHECKPOINT 15.3 Product Development and Marketing
The additional selling costs from product differentiation and marketing
increase consumer choice by providing variety. This benefits society and
weighs in favor of the efficiency of monopolistic competition. Selling costs
increase the costs of a monopolistically competitive firm above those of a
perfectly competitive firm or a monopoly. Also, at times the product differentiation is more apparent than real. These factors harm society and count
against the efficiency of monopolistic competition.
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USING EYE ON THE U.S. ECONOMY
 Examples of Monopolistic Competition
You can list several of the industries given in the figure on the board. Ask students to list them in order of competitiveness. You also can use these data to
promote discussion on calculating the four-firm concentration ratio and the Herfindahl-Hirschman Index.