question_answer

State three characteristics of monopolistic competition. Which of the characteristics separates it from perfect competition and why?

Or

Explain the implications of the following:

(a) Freedom of entry and exit of firms under perfect competition.

(b) Non-price competition under oligopoly.

Answer:

The main features of monopolistic competition are as under:

(1) Large Number of Buyers and Sellers: There are large numbers of firms but not as large as under competition. That means each firm can control its price-output policy to some extent. It is assumed that any price-output policy of a firm will not get reaction from other firms that means each firm follows the independent price policy.

(2) Less Mobility: Under monopolistic competition both the factors of production as well as goods and services are not perfectly mobile.

(3) More Elastic Demand: Under monopolistic competition, demand curve is more elastic. In order to sell more, the firms must reduce its price.

The characteristics which separates monopolistic competition from perfect competition are:

(1) Nature of Firms: Under perfect competition an industry consists of a large number of firms. Each firm in the industry has a very little share in the total output. The firms have to accept the price determined by the industry. On the other hand, under monopolistic competition the number of firms is limited. The firms can influence the market price by their individual actions.

(2) Nature of Price and Output: Under perfect competition price is equal to marginal cost as well as marginal revenue whereas under imperfect competition it is not so. Although, under monopolistic competition marginal cost and marginal revenue are equal yet not equalising the price.

(3) Nature of Product: Under perfect competition, firms produce homogeneous products. The cross elasticity of demand among the goods is infinite. Under imperfect competition, all the firms produce differentiated products and the cross elasticity of demand among them is very small.

Or

(a) Freedom of entry and exit of firms under perfect completion: There is freedom of entry and exit of firms in perfect competition. This implies that under perfect competition, in long-run, firms earn only normal profits, so new firms does not enter or exit the market in long-run. The firms in this competition do not earn supernormal profits or losses in long-run. It is only in short-run that the firms enter or exit the market.

(b) Non-price competition under oligopoly: In an oligopoly market, firms do not compete each other with changes in the price. If the firm increases the price, rival firms may not increase it, so it will lead to a loss of the market.

Consumers will shift to rival firms. On the other hand, if the firm decreases the price, the rival firms may decrease it, so it will lead to a loss of total revenue. There will not be increase in the demand for the product. They take into consideration the decisions of rival firms, and hence, the price does not move freely and it leads to non-price competition. High selling cost prevails in the market, resources are not fully used and welfare is not maximised.