Short-run Monopolistically Competitive Equilibrium

determined price (marginal revenue) equals the marginal cost of production.In perfectly competitive markets,output will expand up to the point where the marginal benefit derived by consumers,as evaluated along the demand function,is just equal to the marginal opportunity cost to society of producing the last unit of output.This is illustrated at point E in Figure 8.10.Total social benefits will be maximized because voluntary exchanges between buyers and sellers will continue only so long as both parties benefit from the transaction.Moreover,in the long run,perfect competition guarantees that productive resources are efficiently allocated and that production occurs at minimum cost.It should be readily apparent that at point E in Figure 8.10 consumer and producer surplus is maximized.Perfect competition is considered a superior market structure precisely because perfect competition maximizes total societal benefits.

Contrast the situation depicted in Figure 8.10 with that of a profitmaximizing monopolist depicted in Figure 8.11.A monopolist may be a single firm that is the sole producer of a good or service,or a group of firms engaged in collusive output and pricing behavior.A monopolist will maximize profits by producing at the output level where MR = MC.This occurs at an output level of Qm.The profit-maximizing price charged by the monopolist is Pm.It is clear from the figure that under monopoly the consumer is paying a higher price for less output.The reader will also verify that consumer surplus has been reduced from P*AE to PmAC.The consumer is made worse off by the area P*PmCE.

Figure 8.11 also illustrates the extent to which the monopolist has benefitted at the expense of the consumer.Compared with perfect competition,producer surplus has changed from the area BP*E to BPmCF.The net change in producer surplus is P*PmCG - FGE.The portion of lost consumer surplus P*PmCE captured by the monopolist (P*PmCE) represents an income transfer from consumer to producer.If the net change in producer surplus is positive,then the producer has been made better off as a result of the monopolization of the industry.

FIGURE8.11. Consumer and producer deadweight loss.