Economics Perfect Competition Questions Medium
In monopolistic competition, the long-run equilibrium condition is achieved when firms in the market are making zero economic profit. This occurs when the average total cost (ATC) curve is tangent to the demand curve at the profit-maximizing level of output.
In the long run, firms in monopolistic competition have the freedom to enter or exit the market. If firms are making positive economic profit, new firms will be attracted to enter the market, increasing competition and reducing the demand for existing firms' products. This leads to a decrease in demand and a downward shift of the demand curve for each individual firm.
As the demand curve shifts downward, firms will need to lower their prices to maintain their market share. This reduction in price will result in a decrease in the average revenue (AR) and marginal revenue (MR) curves. Firms will continue to lower their prices until they reach a point where the AR and MR curves are tangent to the ATC curve.
At this point, the firm is producing at the minimum point of its average total cost curve, indicating that it is operating at the most efficient level of production. The price charged by the firm will be higher than the marginal cost (MC) of production, resulting in a positive markup or excess profit. However, this excess profit will attract new firms to enter the market, increasing competition and shifting the demand curve further downward.
This process continues until firms in monopolistic competition are making zero economic profit. At this long-run equilibrium, the demand curve is tangent to the ATC curve, indicating that firms are producing at the minimum efficient scale and charging a price equal to their average total cost. In this state, there is no incentive for firms to enter or exit the market, and each firm has a unique product or brand that differentiates it from its competitors.