Скачать или смотреть 2.11 (Micro) Monopolistically competitive market structure: Scenario 1: Theory of the firm: IB Econ

Video tutorial for IB Economics students illustrating how to draw and analyze the first scenario for a monopolistically competitive market structure

Scenario 1:
1. a firm begins at supernormal profit in the short run
2. the supernormal profit of the firm attracts competition
3. the firm generates normal profit in the long run

Theoretical assumptions of a monopolistically competitive market structure
A large number of competing firms; the large number of competing firms ensures that each firm has a small share of the market, and that each firm acts independently of the other
Firm is a price maker; demand curve is downward sloping; PED is greater than 1 (elastic); the firm has a degree of market power
Product differentiation = competing firms in the industry strive to differentiate their good or service from their competitors in order to generate a degree of market power; goods and services can be differentiated by the following: physical differences, quality differences, location, services, product image, brand, celebrity sponsors, etc.
No barriers to entry; assumed that there are no significant barriers to entry
Asymmetric information

Note:
IB Econ Paper analysis of the economic model at time 14:58

Market for restaurants
Graph A: The firm is a Turkish restaurant
x-axis measures the quantity supplied and demanded
y-axis measures the price, costs, and revenue

Supply curve: S1= Marginal Cost (MC1) in accordance to the law of supply
S1 = MC1 (law of supply), which intersects (=) the average total cost (ATC) cure when ATC is at its lowest point (minimum ATC = productive efficiency)
Demand curve: D1 = Marginal Benefit (MB1) in accordance to the law of demand
D1 = Average Revenue (AR1) curve = MB1
PED is greater than 1 as the firm faces competition (consumers have substitutes)

Marginal Revenue (MR1) is less than AR1 as a result of the firm not price discriminating; in order for the firm to sell another unit when faced with a downward sloping demand (AR) curve, the firm needs to lower price for all units and all consumers thus decreasing the additional revenue gained when selling another unit of a good

Assuming the objective of profit maximization the firm produces at MR=MC at quantity Q1
At Q1, the firm sets price according to their demand (AR) curve at P1=AR1
*At Q1, the firm generates supernormal profit as P1 = AR1 is greater than C1 = ATC1

The Firm at Q1 is productive inefficient as ATC at Q1 is greater than minimum ATC
The Firm at Q1 is allocatively inefficient as MB is greater than MC meaning that there is an underallocation of resources to the production and consumption of the good or service that is desired by society

Graph B: As a result of the firm earning supernormal profit in the short run, it attracts more competition. As a result of no barriers to entry more Turkish restaurant firms enter the restaurant industry
As a result of an increase in the number of firms entering the restaurant industry, the individual firm that was generating supernormal profit (Graph A) sees their demand curve shift in from D1 to D2 (Graph B) as consumers try other alternative, substitute restaurants

In Graph B, assuming the objective of profit maximization the firm produces at MR=MC at quantity Q1
At Q1, the firm sets price according to their demand (AR) curve at P1=AR1
*At Q1, the firm generates normal profit as P1 = AR1 is equal (=) to C1 = ATC1

The Firm at Q1 is productive inefficient as ATC at Q1 is greater than minimum ATC
The Firm at Q1 is allocatively inefficient as MB is greater than MC meaning that there is an underallocation of resources to the production and consumption of the good or service that is desired by society)

In the long run, monopolistically competitive firms generate normal profit