Chapter 16: Monopolistic Competition

Vocabulary terms and definitions covering the characteristics, equilibrium, social welfare impacts, and role of advertising in Monopolistic Competition based on Chapter 16 notes.

Oligopoly

A market structure with few sellers offering similar or identical products.

Monopolistic Competition

A market structure characterized by many sellers, product differentiation, and free entry and exit.

Concentration ratio

The percentage of total output in the market supplied by the four largest firms.

Highly-concentrated industries

Industries with high concentration ratios, such as Major household appliances ($90\%$), Tires ($91\%$), Light bulbs ($92\%$), Soda ($94\%$), and Wireless telecommunications ($95\%$).

Product differentiation

The feature of monopolistic competition where firms produce goods that are at least slightly different, meaning they face a downward-sloping demand curve rather than being price takers.

Short Run Profit Maximization

The process where a firm produces the quantity where $MR = MC$ and uses the demand curve to find the price.

Long Run Equilibrium (Monopolistic Competition)

The point where firms make zero economic profit because the demand curve is tangent to the average total cost curve ($P = ATC$).

Excess capacity

A characteristic of monopolistic competition where the firm produces at a quantity lower than the level that minimizes average total cost.

Efficient scale

The quantity that minimizes average total cost, which is achieved by firms in perfect competition but not in monopolistic competition.

Markup

The amount by which price exceeds marginal cost ($P > MC$) in monopolistic competition.

Product-variety externality

The positive externality on consumers that arises when a new firm enters a market with a new product.

Business-stealing externality

The negative externality on existing firms that occurs when new firms enter the market and cause them to lose customers and profits.

Incentive to advertise

Arises when firms sell differentiated products and charge prices above marginal cost to attract more buyers.

Advertising spending (Highly differentiated goods)

Firms typically spend between $10-20\%$ of their revenue on advertising.

Signal of quality

The theory that a firm's willingness to spend a large amount of money on advertising serves as information to consumers about the quality of the product, regardless of the ad's content.

Brand names

Products that spend more on advertising and charge higher prices than generic substitutes; defenders argue they provide information about quality and provide firms an incentive to maintain it.