Which of the following statements is true about monopolistically competitive firms?
A) Unlike perfectly competitive firms, monopolistically competitive firms are able to raise their prices without losing all of their customers.
B) Like perfectly competitive firms, monopolistically competitive firms are not able to raise prices without losing all of their customers because they face competition from firms selling similar products.
C) Like perfectly competitive firms, monopolistically competitive firms maximize their profits by settling price equal to marginal cost.
D) Unlike perfectly competitive firms, monopolistically competitive face perfectly inelastic demand curves.
The correct answer and explanation is :
The correct answer is:
A) Unlike perfectly competitive firms, monopolistically competitive firms are able to raise their prices without losing all of their customers.
Explanation:
Monopolistic competition is a market structure where many firms sell similar but not identical products. This differentiates it from perfect competition, where firms sell identical products. The key characteristics of monopolistic competition include product differentiation, many sellers, and free entry and exit in the long run.
One crucial difference between monopolistically competitive firms and perfectly competitive firms is the demand curve they face. A perfectly competitive firm faces a perfectly elastic demand curve because there are many identical substitutes, meaning they must accept the market price. If a perfectly competitive firm tries to raise its price, consumers will switch to competitors immediately.
However, in a monopolistically competitive market, firms sell differentiated products, which gives them some degree of pricing power. Because of this differentiation, they face a downward-sloping demand curve. This means that they can raise their prices without losing all of their customers, unlike perfectly competitive firms. Some consumers may still be willing to pay a higher price due to brand loyalty, perceived quality differences, or unique features.
On the other hand, monopolistically competitive firms do not have as much pricing power as a monopoly, which faces no direct competition. If a monopolistically competitive firm raises its price too high, customers will shift to similar products offered by competitors.
Thus, statement A is correct, as monopolistically competitive firms have some control over their pricing due to product differentiation but still face competition, preventing them from raising prices too high without losing customers.
Here is an illustration of monopolistic competition, showing a lively shopping street with many small stores, each selling slightly different products. The image represents product differentiation and competition among businesses.