Chapter 7 section 2 Monopolistic Competition and

Oligopoly• Monopolistic competition-A market

structure w/ low entry barriers and many firms selling products differentiated enough that each firm’s demand curve slopes downward.

Market Characteristics

• B/c barriers to entry are low, firms in monopolistic competition can, in the long run, enter or leave the market w/ ease.

• Market characteristics

Product Differentiation

• Physical Differences, color, packaging, scent, design.

• Location, # & variety of locations where a product is available (differentiation). Available everywhere in the internet.

• Services, products differ in accompanying services.

• Product Image, a final way products differ is in the image the producer tries to foster in the consumer’s mind.

Costs of Product Differentiation

• Firms spend more on advertising and promotional expenses to differentiate their products.

• Increases average cost.

• Too many firms & product differentiation, artificial.

Excess Capacity

• Means that a firm could lower its average cost by selling more.

• Gas stations, drug stores, banks, convenience stores, restaurants, motels, bookstores, and flower shops

Oligopoly

• Market dominated by just a few firms• 3 or 4 firms account for three-quarters of

market output.• B/c an oligopoly has a few firms, each must

consider the effect of its own actions on competitors’ behavior.

• Industries-market for steel, oil, automobiles, breakfast cereals, & tobacco.

Undifferentiated oligopoly

• Sells commodity, ingot of steel or a barrel of oil. Oligopolies, such as automobiles or breakfast cereals, the product is differentiated across producers.

Differentiated oligopoly

• Sells products that differ across producers, such as Ford versus Toyota or General Food’s Wheaties versus Kellog’s Corn Flakes.

Firms in oligopoly

• Interdependent

• If any changes in price, output, or advertising may prompt a reaction from its rival.

• Firm may react if another firms alters any of these features.

Barriers of Entry

• An oligopoly can be traced to some barrier to entry, such as economies of scale or brand names built up by years of advertising.

• Economies of Scale-• Minimum efficient scale is the lowest rate

of output at which the firm takes full advantage of economies of scale.

The High Cost of Entry

• The total investment needed to reach the minimum-efficient size often is huge

• New company has to pay a huge sum, pay for advertising.

• If the product fails, that would cripple the company.

Product Differentiation Costs

• Oligopolists spend billions of dollars to differentiate their products.

• Ex. Pepsi and Coca Cola

Cartel

• Is a group of firms that agree to act as a single monopolist to increase the market price and maximize the group’s profits.

• Produce less, charge higher prices, earn more profit, & block entry market.

• Illegal in the USA• Ex. OPEC• Obstacles- cheat, entry of rival firms, fear

technological change erode their power.