chunty

When a firm is earning positive economic profits in a monopolistic competitive market, what will most likely occur?

A) Losses will occur in the short run.

B) Price takers will be over run by price searchers.

C) New firms will enter driving down the economic profits to zero.

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New firms will enter a monopolistic competitive market with economic profits above zero and will absorb some market demand. This will shift the demand curve down to the point where price equals average total cost and there are zero economic profits.

chunty

Which of the following most accurately describes why firms under monopolistic competition face elastic demand for their products?

A) The availability of many close substitutes.

B) Allocative efficiency.

C) High barriers to entry.

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The demand for products from firms competing in monopolistic competition is relatively elastic due to the availability of close substitutes. If a firm increases its product price, it will lose customers to firms selling slightly differentiated products at lower prices.

chunty

If a market features differentiated products but has low barriers to entry, in long-run equilibrium the firms in the market will earn:

A) substantial economic losses.

B) zero economic profits.

C) substantial economic profits.

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Low barriers to entry suggest free entry and exit, which implies zero economic profits in the long run.

chunty

Under monopolistic competition, companies can earn positive economic profits in:

A) the short run and in the long run.

B) neither the short run nor the long run.

C) the short run but not in the long run.

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In a market characterized by monopolistic competition, companies can earn positive economic profits in the short run if the price of their product is greater than the average total cost of producing it. In the long run, because barriers to entry are low, economic profits will attract new entrants. Additional producers will drive the price lower until price equals average total cost, economic profit is zero, and new competitors no longer have an incentive to enter the market.

chunty

In the short run, price searchers maximize profits by producing output where marginal revenue (MR):

A) equals marginal costs (MC) and charging a price based on the average total cost (ATC) curve.

B) equals marginal costs (MC) and charging a price based on the demand curve.

C) is greater than marginal costs (MC) and charging a price based on the demand curve.

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Price searchers maximize profits by producing an amount of output where MR equals MC and charging a price based on the demand curve. In the short run, profits or losses occur depending upon where the individual firm’s ATC curve is in relationship to the demand curve. In the long run, economic profits are zero due to the low barriers to entry. Important note for the test: regardless of whether a firm is a price taker, price searcher, monopoly, or oligopoly, all firms will seek to maximize profits and want to produce the ouput where marginal revenue equals marginal cost.

chunty

In a market characterized by monopolistic competition, which of the following statements about advertising costs is least accurate?

A) The average total cost attributable to advertising will increase as output increases.

B) Many firms spend a significant portion of their advertising budget on brand name promotion.

C) Firms’ advertising costs tend to be greater than those for firms in perfect competition.

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The increase in average total cost attributable to advertising decreases as output increases because a fixed cost is being averaged over a larger quantity. Advertising expenses are relatively high for firms in monopolistic competition. This is not only because firms need to inform consumers about the unique features of their products, but also to create or increase a perception of differences between products that are actually quite similar. Many firms spend a significant portion of their advertising budget on brand name promotion.

chunty

Which of the following is least accurate with regard to advertising for firms operating under monopolistic competition?

A) Advertising may decrease average total cost.

B) Advertising expenses are high relative to perfect competition and monopoly.

C) The increase to average total costs associated with advertising increases as output increases.

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Advertising expenses are high for firms in monopolistic competition. Not only because firms need to inform consumers about the unique features of a firm’s products, but also to create or increase a perception of differences between products that are actually quite similar. Advertising costs increase average total costs, but the increase to average total cost attributable to advertising decreases as output increases because more fixed advertising dollars are being averaged over a larger quantity. If advertising increases output (sales) significantly, it can actually decrease a firm’s average total cost if there are economies of scale.

chunty

Which of the following statements is least accurate with regard to the efficiency of monopolistic competition?

A) The expense of advertising and promotion may not be justified by their benefit to consumers.

B) Consumers benefit from brand name promotion and advertising.

C) Monopolistic competition is at least as efficient as perfect competition.

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The efficiency of monopolistic competition is unclear. Consumers may make better purchasing decisions due to the information content of brand name promotion and advertising. However, there are those that argue that the increased cost of advertising and sales is not justified by the benefits of these activities and represent inefficient use of resources.

chunty

The short-run supply curve for a price taker firm is the portion of the marginal cost (MC) curve:

A) above the average variable cost (AVC) curve.

B) below the average variable cost (AVC) curve.

C) above the average total cost (ATC) curve.

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The short-run supply curve for a firm is its MC curve above the AVC curve. Price takers will produce where price (P) equals MC. At prices below the AVC curve the firm will not be able to remain in operation. Above the ATC curve the firm is making economic profits and will continue to expand production along the MC curve.

chunty

The short-run supply curve for a firm in a perfectly competitive market is equal to the firm's:

A) MC curve.

B) AVC curve.

C) ATC curve.

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The short-run supply curve for a firm in a perfectly competitive market is equal to the firm's MC curve. A price taker will maximize profits when it produces the output level where P = MC. As price rises, its point of intersection with the MC curve indicates optimal production.