Which of the following situations is achieved in long-run equilibrium in monopolistic competition? Group of answer choices marginal revenue equals marginal cost and price equals average total cost. normal profit is zero and price equals marginal cost. economic profit is zero and price equals marginal cost. production takes place where ATC is minimized.
The Correct Answer and Explanation is:
Correct answer: marginal revenue equals marginal cost and price equals average total cost
In the long-run equilibrium under monopolistic competition, firms experience zero economic profit. This occurs because the market allows free entry and exit, which means that if firms are making profits in the short run, new firms are attracted to the industry. As more firms enter, demand for each existing firm’s product becomes more elastic, leading to a fall in the price they can charge. This process continues until all firms are earning only a normal profit, which is when economic profit equals zero.
At this point, the firm’s price equals average total cost (P = ATC). The firm is covering all its costs, including opportunity costs, but not earning any extra profit. In addition, to maximize profit (or minimize loss), every firm produces at the quantity where marginal revenue equals marginal cost (MR = MC). This is a condition for equilibrium in all market structures, not just monopolistic competition.
However, price still exceeds marginal cost (P > MC) in the long run. This is a key feature that differentiates monopolistic competition from perfect competition. In perfect competition, long-run equilibrium ensures that P = MC = ATC. In monopolistic competition, because of product differentiation and the downward-sloping demand curve, firms have some pricing power. Therefore, the firm charges a price above marginal cost, leading to a deadweight loss and an inefficient allocation of resources.
Also, production does not take place where average total cost is minimized, because firms do not operate at the lowest point of the ATC curve. Instead, they produce at a lower quantity where the downward-sloping demand curve is tangent to the ATC curve. Thus, there is excess capacity in the market in the long run.
This combination of MR = MC and P = ATC defines the long-run equilibrium in monopolistic competition.
