Lecture Notes audio 4/9/25

Importance of Writing Papers

• Reminder: Start working on papers early to avoid the pressure as time flies.

Measuring Market Power

• Methods to Measure Market Power:

  • Herfindahl-Hirschman Index (HHI): A measure of market concentration calculated by squaring the market shares of all firms in the industry and adding them up.

  • Market Share of Top Firms: Another way to assess market power, often focusing on the leading firms in the industry.

Profit Maximization in Monopolistic Competition

• Characteristics of Monopolistically Competitive Firms:

  • Firms maximize profits by determining output and price levels.

  • Graph analysis: Understanding output levels that maximize profit (e.g., where marginal cost (MC) equals marginal revenue (MR)).

• Differences with Monopoly:

  • Unlike monopolies, monopolistically competitive firms face competition, leading to different profit dynamics in the short and long run.

• Profit and Loss Dynamics:

  • In the short run, firms can earn profits or incur losses similar to pure competition.

  • **Long Run Adjustments: **

  • As firms earn profits, new firms enter the market, increasing supply, which lowers prices.

  • Conversely, losses lead to exiting firms, reducing supply and raising prices.

Shifts in Supply and Price

• Graph Interpretation: Listening for average revenue (AR) curve dynamics -- in monopolistic competition, as supply increases, price decreases, influencing average revenue.

  • Short Run Effects: When profits exist, the average revenue shifts, decreasing due to increased supply.

  • Long Run Equilibrium: Price eventually becomes equal to average total cost (ATC) at zero economic profit, where AR is tangent to ATC.

Comparing Prices and Outputs

• Price and Output Comparison:

  • Monopolistic competition generally results in higher prices and lower outputs compared to pure competition.

  • Price tends to be higher in monopolistic structures as firms can exercise some market power.

  • Efficiency: Neither pure competition nor monopolistic competition achieves productive efficiency due to excess capacity.

Characteristics of Monopolistic Competition:

• Excess Capacity: Firms operate below their minimum average cost level due to the competition among many sellers.

  • Firms do not produce at the minimum average cost due to market structure limitations.

Economic and Productive Efficiency

• Key Distinction:

  • Pure competition achieves zero economic profit where price equals minimum average cost in the long run.

  • Monopolistic competition can sustain positive profits due to brand differentiation and lack of perfect substitutes.

• Consumer and Producer Behavior:

  • Consumers maximize satisfaction where price equals marginal utility.

  • Producers aim for profit maximization at output level where MR equals MC.

• Inefficiencies: Marginal utility often exceeds marginal cost in monopolistic competition, suggesting that resources are not allocated efficiently, leading to consumer benefits that do not translate to increased producibility.