question_answer

Why can a firm not earn abnormal profits under perfect competition in the long run? Explain.

Or

Why is the demand curve of a firm under monopolistic competition more elastic than under monopoly? Explain.

Answer:

Under perfect competition, no firm can earn abnormal profits in the long run. This is because if any firm in the long run earns abnormal profits (that is price > minimum of average cost curve), then new firms are attracted into the market. Due to the new entrants, the production of output increases, which then increases the supply of the output. This puts pressure on the price and price continues to fall, until it reaches the minimum of average cost curve. At the minimum of average cost curve, all the abnormal profits are wiped-out and no firm earns abnormal profit. Thus, in long run, under perfect competition, no firm can earn abnormal profits, rather earns only normal profit.

Or

The demand curve under monopolistic competition is more elastic than under monopoly. The reason behind this can be attributed to the fact that the nature of the goods available in both the markets is different. That is, under monopolistic market, there is a wide range of close substitutes available for the goods whereas, in monopoly market, the monopolist is the single seller and there are no close substitutes available for its product. Due to this, the demand curve under monopoly is less responsive to the changes in prices of the good. In contrast to this, in monopolistic market, due to the availability of a wide range of substitutes, there is a higher responsiveness of demand to the changes in prices. Hence, we can infer that the demand curve under monopolistic competition is more elastic than under monopoly.