Question

Given the description of the firm below, decide whether it applies to monopolistic competition, perfect competition, or both.

a. a firm that produces with excess capacity in the long run
b. a firm that has market power
c. a firm that sets greater than marginal
d. a firm that earns zero economic profit in the long

Answer 1

Perfect Competition

d. a firm that earns zero economic profit in the long

In the long run, firms will keep entering and exiting the market in a perfect competition such that there will be no economic profit to be gained.

Monopolistic Competition

a. a firm that produces with excess capacity in the long run

b. a firm that has market power

c. a firm that sets price greater than marginal cost.

Monopolistic competition has excess capacity in the long run because their prices are set at a higher level than the marginal revenue. They are therefore producing more goods than they are selling leading to excess capacity.

Monopolistic competition has some form of market power as well because they get to set their own prices.