Monopolistic competition is the market structure where there are a large number of buyers and sellers selling differentiated products. It includes the features of both monopoly and perfect competition. Since the firms are selling differentiated products, the firms have some amount of market control over the supply and the price of the commodities sold.
The following are the main characteristics of monopolistic competition:
• A large number of buyers and sellers: Under this market structure, there will be a large number of buyers and sellers in the market. Thus, neither a single buyer nor a single seller can influence the market price and quantity sold. The number of sellers will be fewer than that of a perfectly competitive market. Still, no one would be having control over the market even though they can influence the price of their products to some extent.
• Differentiated products: This is an important feature of the market characterised by monopolistic competition. The firms compete with each other by selling highly differentiated products. The products will be highly substitutable for each other. They may not be perfect substitutes with each other; rather it will be close substitutes with each other.
• Free entry and exit: The new firms can enter the market during the existence of profits. The existing firms can leave the industry during the occurrence of losses. There will not be any major restrictions imposed that controls the entry and exit of the firms. Thus they can operate until they have profits and are free to leave the industry when their products become unprofitable.
• Imperfect knowledge- Both the producers and buyers in the market have imperfect knowledge. Thus they have incomplete knowledge about the nature of the products and their prices. The buyers may charge a higher price and even charge different prices from different buyers.
(a) The new firms can enter the market during the existence of profits. The existing firms can leave the industry during the occurrence of losses. There will not be any major restrictions imposed that controls the entry and exit of the firms. Thus they can operate until they have profits and are free to leave the industry when their products become unprofitable. Since the firms are having free entry and exit, the market power will not be restricted by some firms. Every firm will have the same market power to influence the price and quantity demanded and supplied in the market. The firms will have zero market power and their ability to control prices, and other market decisions will be minimum.
(b) Oligopoly is the market structure with only a few sellers of a commodity. The market would be dominated by only a few sellers that are very big firms. Since there are only a few rival firms, firms recognise their mutual dependence. The action of each firm would have corresponded with the reaction from other firms. Thus the firms do not compete by changing the price. Mostly they indulge in non-price competition. It is mainly carried out through sales promotion, advertisement, after sale services and other factors. The competition through non-price factors will result in price rigidity in the market. The firms will compete through all the factors other than price.
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