- Okay now, let me go ahead
and talk about what's
sometimes called the issue
of excess capacity
and efficiency
in monopolistic competition.
So I'm going to revert back
to a more normal
looking set of cost curves
for this part.
And so we're going to go ahead
and have a U shaped average
and total cost curve,
and we're going
to have a marginal cost curve
that looks like this.
And remember,
the marginal cost curve crosses
the average total cost curve
at the minimum of
the average total cost curve.
And it doesn't quite
look like that in my version,
so I'll draw it just
a little bit differently here.
And we know that in the long
run equilibrium,
we're going
to have the demand curve
just touching the average
total cost curve,
so that this firm is charging a
price equal average total cost,
so it's just breaking even.
And the marginal revenue curve
would be down here.
And this firm is producing
that amount.
And pretend
that these all line up here
and I didn't
have to curve that line.
So what we can see here is,
here's the actual quantity
this firm's producing,
and here, below the minimum
of the average total
cost curve is the quantity
that would cause this firm to
minimize the cost or production.
Or put differently,
this is the most efficient scale
for this firm to operate,
and so this firm has excess
capacity.
It has the capacity
to serve this amount,
this quantity efficiently,
but in fact, it's only
producing this amount.
And from a certain
point of view,
there's deadweight loss
in this example,
because there are units,
say right here,
where someone was willing
to pay that much for it.
It only had a marginal cost
of that much,
and so that gain
from trade didn't happen.
So some people talk
about the dead weight loss
due to this excess capacity,
is that shaded region
right there,
above the marginal cost curve,
and below the demand curve.
Just like the dead weight loss
from monopoly.
So the question
often comes up then,
is monopolistic
competition inefficient?
And this sort of,
I think,
gets into a contrast
between a totally ideal world
and a more realistic world.
I think you
to realize of course,
that we're not having anyone
make any economic profits.
Effectively, the entry
of new firms serves
as a kind of
automatic regulation
of these firms monopoly power.
Because remember the best
we can do, probably,
with a true monopolist,
is to try and get them to charge
price equals average total cost,
so that they're not,
you know,
charging a huge markup and so on
and so forth, out there.
You know, theoretically,
perhaps we could make ourselves
better off by having
some of these monopolistically
competitive firms merge
and then putting them
under price regulation.
That would allow us to get rid
of the excess capacity problem,
but not have these firms
charging a huge markup.
But if you sort of think
about what that would look like,
suppose you think
about a medium size town,
and there's maybe
like 20 restaurants.
And of course those restaurants
add value through their variety.
If we force them to merge down
to ten restaurants instead,
you know, we would have a much
smaller amount of variety,
and that variety,
we can't show it easily
in this kind of diagram,
but it definitely has
significant value.
So I, myself, don't tend
to worry about this issue
of excess capacity
and any potential dead
weight loss there.
One thing that's
worth noticing is,
a perfectly competitive firm,
is not willing to pay anything
to sell more
at its current price.
Because a perfectly competitive
firm can already sell
as much as it wants
at the current market price.
So a perfectly competitive firm
typically does not
engage in advertisement.
Monopoly firms also don't
engage in advertisement.
They would like to be able
to sell more
at their current price,
and not have to cut price
to sell more,
but it's very difficult
to actually increase sales
if you already have 100%
of the market.
But for a monopolistically
competitive firm,
there definitely
is a significant benefit
to making more sales
at your current price,
because essentially
your incremental profit
per unit is equal to this gap
between the price you charge
and your current marginal cost.
So, monopolistically
competitive firms
actually do engage in a lot of
advertising and other marketing,
and this is in contrast again,
to something like a perfectly
competitive firm,
or a monopoly firm.
