Evaluation of Monopolistic Competition

EVALUATION OF MONOPOLISTIC COMPETITION

Merits

1. An important merit of monopolistic competition is that it is much closer to reality than several other models of market structure. Firstly, it incorporates the facts of product differentiation and selling costs. Secondly, it can be easily used for the analysis of duopoly and oligopoly.

2. Under monopolistic competition it is possible to see that even when each individual firm produces under conditions of increasing returns, not only the firm under consideration but the entire group of firms can be in equilibrium.

3. Moreover, monopolistic competition is able to show that even when each individual firm is producing under increasing returns, it still earns only normal profit in the long run.

Demerits

1. The biggest conceptual difficulty with monopolistic competition is the concept of a ‘group’ of firms. There is no standard theoretical foundation for deciding the boundaries of a group.

2. Related with the concept of a group of firms, who face the difficulty of defining the meaning of a ‘close substitute’. We are not told at what values of cross elasticity, two products become close substitutes of each other.

The theory of monopolistic competition fails to take into account the fact that the demand by final consumers is largely influenced by the retail dealers because the consumers themselves are not fully aware of the technical qualities of the product.