Abstract
This chapter discusses monopolistic competition. Monopolistically competitive firms face a downward-sloping demand curve. They use product quality, style, convenience of location, advertising, and price as competitive weapons. Because rivals are free to duplicate the product of the monopolistic competitor, the demand for his product is elastic. Because price searchers must reduce price to expand sales, their marginal revenue from the sale of additional units would be less than the price. The marginal revenue curve for a price searcher would lie inside of the demand curve. Traditional economic theory emphasizes that monopolistic competition is inefficient because price exceeds marginal cost at the long-run equilibrium output level, long-run average cost is not minimized and excessive advertising is sometimes encouraged. However, other economists have argued that this criticism is misdirected in a dynamic world. Under monopolistic competition, firms have an incentive to produce efficiently, undertake production if their actions would increase the value of resources used, and offer a variety of products.
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