Differentiated competition and excess capacity
| English | 中文 | Pinyin |
|---|---|---|
| excess capacity/ekˈses kəˈpæsɪti/ | 过剩产能 | guò shèng chǎn néng |
| product differentiation/ˈprɒdʌkt ˌdɪfəˌrenʃɪˈeɪʃn/ | 产品差异化 | chǎn pǐn chā yì huà |
A decision you can investigate
- Several cafes offer different drinks, packaging and delivery choices. Customers may pay more for a particular variety, but new rivals can enter.
- Many firms can coexist with some price-setting ability.
Build the explanation
- Monopolistic competition combines many firms and relatively open entry with differentiated products. Each firm faces downward-sloping demand for its own variety and has limited market power; close substitutes constrain it. Physical differentiation changes features, marketing differentiation uses advertising/packaging, and distribution differentiation changes access through shops, online or telephone ordering. Distinguish useful quality/access changes from unsupported claims.
- In the short run a firm chooses the feasible profit maximum where rising MC crosses MR and reads price from AR/demand; it can earn economic profit or losses. With entry and sufficient substitutability, positive profits attract new varieties and reduce each incumbent’s demand. In the standard long-run tangency model AR touches AC at the MR=MC output, giving normal economic profit. Output lies below the minimum-AC scale: excess capacity 过剩产能 and P>MC imply static productive/allocative inefficiency in the simple benchmark, alongside possible benefits of variety.
Work through the evidence
- Use a fictional firm with TC=16+4Q+Q², MC=4+2Q and short-run demand P=20−Q, MR=20−2Q. Profit maximization gives20−2Q=4+2Q, so Q4, P16, TR64, TC48 and profit16. In this particular short-run case Q4 also minimizes AC; that coincidence is not a universal short-run result.
- A separate long-run entry-adjusted demand is P=a−Q, where a=4+4√8≈15.3137. Its equilibrium Q=√8≈2.8284 gives price4+3√8≈12.4853 and AC the same, so economic profit0. MC=4+2√8≈9.6569, below price by√8. AC is minimized at Q4 with value12, so excess capacity is4−√8≈1.1716. The AR/AC tangency is a whole equilibrium condition, not just any crossing of the two curves.
What is short-run economic profit in the case?
Revenue64 less economic cost48 equals16.
Which is distribution differentiation?
Distribution concerns how customers obtain the product.
Zero economic profit in monopolistic competition proves allocative efficiency.
Price may equal AC while exceeding MC; externalities and product variety also require evaluation.
Test the limits
- For the long-run numerical comparison, assume the stated cost curve represents attainable costs and no alternative plant gives a lower cost. Normal profit is compatible with a markup over marginal cost because price also covers fixed and normal-return costs. The standard entry result needs open entry, demand redistribution and stable relevant costs; branding, strategic barriers or changing input prices can prevent it. Do not confuse monopolistic competition with monopoly or assume that every advertised product meets the model.
- Excess capacity refers to the minimum-AC benchmark, not necessarily physically idle seats at every moment. Consumers may value differentiated products enough to prefer variety over a single standardized low-cost output. Advertising can inform or create misleading preferences; distribution can improve accessibility or create exclusion. Assess price, quality, information, innovation and variety, with social externalities handled separately from the private P/MC comparison.
In the long-run case, which relationship holds?
The tangency covers economic costs at Q√8, below the minimum-AC scale4.
Apply and explain your answer
- Why can long-run economic profit be zero while price exceeds MC?
- Price equals AC, covering fixed costs and normal returns, but AC exceeds marginal cost at the lower-output tangency. Zero economic profit does not require P=MC.
Match the terms to their meanings.
Use each term for its stated economic relationship.
Use the terms precisely
- product differentiation 产品差异化: Differences in features, marketing or distribution that make customers distinguish firms’ products.
- excess capacity: Output below the minimum-average-cost scale in the stated long-run model, not necessarily a direct measure of physically idle equipment.
Use a fictional firm with TC=16+4Q+Q², MC=4+2Q and short-run demand P=20−Q, MR=20−2Q. Profit maximization gives20−2Q=4+2Q, so Q4, P16, TR64, TC48 and profit16. In this particular short-run case Q4 also minimizes AC; that coincidence is not a universal short-run result. A separate long-run entry-adjusted demand is P=a−Q, where a=4+4√8≈15.3137. Its equilibrium Q=√8≈2.8284 gives price4+3√8≈12.4853 and AC the same, so economic profit0. MC=4+2√8≈9.6569, below price by√8. AC is minimized at Q4 with value12, so excess capacity is4−√8≈1.1716. The AR/AC tangency is a whole equilibrium condition, not just any crossing of the two curves.
For the long-run numerical comparison, assume the stated cost curve represents attainable costs and no alternative plant gives a lower cost. Normal profit is compatible with a markup over marginal cost because price also covers fixed and normal-return costs. The standard entry result needs open entry, demand redistribution and stable relevant costs; branding, strategic barriers or changing input prices can prevent it. Do not confuse monopolistic competition with monopoly or assume that every advertised product meets the model. Excess capacity refers to the minimum-AC benchmark, not necessarily physically idle seats at every moment. Consumers may value differentiated products enough to prefer variety over a single standardized low-cost output. Advertising can inform or create misleading preferences; distribution can improve accessibility or create exclusion. Assess price, quality, information, innovation and variety, with social externalities handled separately from the private P/MC comparison.
Monopolistic competition combines many firms and relatively open entry with differentiated products. Each firm faces downward-sloping demand for its own variety and has limited market power; close substitutes constrain it. Physical differentiation changes features, marketing differentiation uses advertising/packaging, and distribution differentiation changes access through shops, online or telephone ordering. Distinguish useful quality/access changes from unsupported claims.