Answer to Question #220695 in Microeconomics for Gilb

Question

Question Five
a) Compare and contrast features of perfectly competitive market with monopolistic competition. (10 marks)
b) Explain the terms Productive efficiency and allocative efficiency with reference to monopolistic completion. (10 marks

Answer 1

a) In a monopolistic market, there is only one firm that dictates the price and supply levels of goods and services, and that firm has total market control. In contrast to a monopolistic market, a perfectly competitive market is composed of many firms, where no one firm has market control.

In a monopolistic competition, the firms are price makers because they control the prices of goods and services. In this type of market, prices are generally high for goods and services because firms have total control of the market prices which are dictated by supply and demand.

Under perfect competition, each firm produces and sells a homogeneous product so that no buyer has any preference for the product of any individual seller over others. On the other hand, there is product differentiation under monopolistic competition. Products are similar but not identical. They are close substitutes. They differ from each other in design, colour, flavour and packing.

b) Productive efficiency occurs when a market is using all of its resources efficiently. This occurs when a product’s price is set at its marginal cost, which also equals the product’s average total cost. In a monopolistic competitive market, firms always set the price greater than their marginal costs, which means the market can never be productively efficient.

Allocative efficiency occurs when a good is produced at a level that maximizes social welfare. This occurs when a product’s price equals its marginal benefits, which is also equal to the product’s marginal costs. Again, since a good’s price in a monopolistic competitive market always exceeds its marginal cost, the market can never be allocatively efficient.