Tips for Chapter 11, Micro

Two remaining market structures of Monopolistic Competition and

Oligopoly are discussed in this chapter.
Monopolistic Competition is based on three assumptions: many
buyers and sellers, firms produce a slightly differentiated product,
and easy entry/easy exit. Differentiation of product could be real or
imagined as location, services provided with, brand names,
advertisement, color, packaging, etc. would be different. Demand
curve is flatter (more elastic) than Monopoly, but not horizontal as in
Perfect Competition. Principles of Maximization of profit or
Minimization of loss where MC=MR is still the golden rule in
determining the output level and computation of profit or loss as
before. In the short run, firms could make profit or incur losses; but
in the long run, economic profit is equal to zero (See Exhibits 1 and
2.) Monopolistically Competitive firm produces an output smaller
than the output at its minimum of ATC. This is known as Excess
Capacity Theorem (See Exhibit 3.)
Oligopoly (the theory of just a few big businesses) is also based on
three assumptions: there are a few sellers/many buyers, firms
produce either a homogeneous or differentiated products, and there
is a significant barrier to entry. The Concentration Ratio is the
criterion of the size and degree of an oligopolistic firm (Please read
page 256 on CR.) Unlike other market structures, there is no one
accepted theory of oligopoly. The Cartel Theory and Game Theory
are the only two models of oligopoly discussed at this introductory
level of microeconomics.
The Cartel Theory is a theory of oligopoly in which firms act as if
there were only one firm in the industry (Industry is used as
synonym for a market.) Cartel is an organization of firms that
reduces production of output and increases price in an effort to raise
joint profits of the members. The issue involved in a cartel

organization is the incentive for a member firm to cheat. (See

Exhibits 4 and 5.)
Interdependence among just a few firms, trying to reach an optimal
position by each firm, the interactive nature of the firms, and the
need for strategies in oligopolistic firms is the subject of Game
Theory. A well-known game theory is the Prisoners Dilemma that
illustrates a case in which individually rational behavior leads to a
jointly inefficient outcome. The lesson learned in prisoners dilemma
has been described this way: You do what is best for you, I will do
what is best for me, and somehow we end up in a situation that is
not best for either of us. (Carefully read pp. 259-261, and see
exhibit 6 for explanation of prisoners dilemma.)
Contestable markets, Review of market structures, and Applications
of game theory are discussed in the rest of chapter 11.

Sample Questions for Chapter 11, MICRO

Multiple Choices
Identify the choice that best completes the statement or answers the question.
____ 1. The demand curve facing a monopolistic competitive firm will be __________ than
the demand curve facing a perfectly competitive firm, because the price elasticity of
demand for the monopolistic competitive firm's product is __________ than that for
the perfectly competitive firm.
a. steeper; greater
b. flatter; greater
c. steeper; less
d. flatter; less
____ 2. If a perfectly competitive firm and a monopolistic competitive firm face the same
demand and cost curves, then
a. the perfectly competitive firm will attain resource-allocative efficiency,
but the monopolistic competitive firm will not.
b. the perfectly competitive firm will attain resource-allocative efficiency,

but the monopolistic competitive firm may or may not, depending

upon the demand for its product.
c. the perfectly competitive firm will not attain resource-allocative
efficiency, but the monopolistic competitive firm will.
d. both the perfectly competitive firm and the monopolistic competitive
firm will attain resource-allocative efficiency.
e. neither the perfectly competitive firm nor the monopolistic competitive
firm will attain resource-allocative efficiency.
____ 3. A firm in a monopolistic competitive industry will produce an output level at which
a. P < MR.
b. P = MR.
c. P > MR.
d. P = MC.
____ 4. There are few sellers and many buyers in the
a. perfectly competitive market structure.
b. monopolistic competitive market structure.
c. oligopoly market structure.
d. monopoly market structure.
____ 5. Total industry sales are $800 million. The four largest firms have sales of $220
million, $126 million, $98 million, and $42 million. The industry's four-firm
concentration ratio is
a. 0.61.
b. 0.48.
c. 0.39.
d. 0.58.
____ 6. If you were to rank the four market structures in terms of lowest concentration ratio to
highest concentration ratio, which of the following rankings would be correct?
a. oligopoly, monopoly, perfect competition, monopolistic competition
b. monopoly, oligopoly, monopolistic competition, perfect competition
c. perfect competition, monopolistic competition, oligopoly, monopoly
d. monopolistic competition, perfect competition, oligopoly, monopoly
e. monopolistic competition, oligopoly, perfect competition, monopoly

____ 7. The major economic objective of cartels is to

a. impose their political will on others.
b. restrict output, push up price, and increase profits.
c. reduce costs.
d. develop new ways of doing things.
e. b and d
____ 8. The assumption that precludes economic profits in monopolistic competition in the
long run is that
a. there are many buyers and sellers.
b. the firms produce a homogeneous product.
c. there is easy entry and exit in this market structure.
d. buyers and sellers have all relevant information.
____ 9. Which of the following is not correct about contestable markets?
a. There is easy entry into and costless exit from the market.
b. New firms entering the market can produce the product at the same
cost as current firms.
c. Firms exiting the market can easily dispose of their fixed assets by
selling them elsewhere.
d. Firms already in the market have technological advantages.
e. b and c
____10. The monopolistic competitor's demand curve is
a. perfectly elastic because of the many buyers and sellers in the market.
b. downward sloping because of product differentiation.
c. perfectly elastic because of identical products.
d. downward sloping because of the few buyers and sellers in the market.
e. none of the above
Exhibit 25-3

____11. Refer to Exhibit 25-3. Total revenue of this profit maximizing monopolistic
competitor is represented by the area
a. 0P1AQ2.
b. 0P3CQ2.
c. P3P1AC.
d. P4P1AD.
____12. Which of the following assumptions do the market structures of monopolistic
competition and perfect competition share?
a. many buyers and sellers
b. homogeneous products
c. difficult entry into the market
d. difficult exit from the market
____13. Excess capacity results from a
a. downward-sloping demand curve and a U-shaped ATC curve.
b. downward-sloping demand curve and no fixed costs.
c. horizontal demand curve and an upward-sloping marginal cost curve.
d. perfectly inelastic demand curve and a downward-sloping ATC curve.
e. none of the above
____14. If the top four firms account for $25 million in sales and total industry sales are $87
million, it follows that the four-firm concentration ratio is
a. 0.29.

b. 0.65.
c. 1.74.
d. 0.03.
____15. The key behavioral assumption of the cartel theory is that oligopolists in the industry
act as if
a. all firms in the industry are the same size.
b. all firms in the industry are price takers.
c. there is a dominant firm in the industry and many fringe firms.
d. there is only one firm in the industry.
e. none of the above
____16. Which of the following is not a condition of a contestable market?
a. There is easy entry into the market.
b. There is costless exit from the market.
c. New firms entering the market can produce the product at lower cost
than current firms.
d. Firms exiting the market can easily dispose of their fixed assets by
selling them elsewhere (less depreciation).
e. None of the above; that is, all of the above are conditions of a
contestable market.
Exhibit 25-6

____17. Refer to Exhibit 25-6. The monopolistic competitor in the exhibit is

a. earning positive economic profits.
b. taking losses.
c. earning a normal profit.
d. exhibiting productive efficiency.
e. a and d
____18. In long run equilibrium, a monopolistic competitive firms price will most likely be
a. equal to average total cost, but higher than marginal cost.
b. greater than both average total cost and marginal cost.
c. less than both average total cost and marginal cost.
d. equal to marginal cost, but higher than average total cost.
____19. Which if the following is an example of an oligopoly market in which the firms
produce a homogeneous product?
a. aluminum
b. soap
c. breakfast cereals
d. tires
e. all of the above
Exhibit 25-7

Price
$10
9
8
7
6
5
4

Quantity
Sold
(units)
100
200
300
400
500
600
700

Total Cost
$600
1,100
1,400
1,800
2,400
3,200
4,200

____20. Refer to Exhibit 25-7. Assuming that the firm is maximizing profits, the marginal cost
of the last unit produced equals
a. $4.
b. $40.
c. $5.
d. $50.
e. $6.

Exhibit 25-8

Quantity
2
3
4
5
6

Total
Revenue
$140
$180
$200
$200
$180

Total Cost
$100
$110
$130
$160
$200

____21. Refer to Exhibit 25-8. A profit-maximizing monopolistic competitive firm will set the
price at
a. $70 per unit.
b. $60 per unit.
c. $50 per unit.
d. $40 per unit.
e. $30 per unit.
____22. Refer to Exhibit 25-8. A profit-maximizing monopolistic competitive firm will
produce ______________ units of output and charge a price of
a. 3; $60.
b. 4; $50.
c. 5; $40.

d. 6; $30.
Exhibit 25-9
Market Structure
Perfect competition
Monopolistic
Competition
Oligopoly
Monopoly

Number
of Sellers
(A)
(B)

Type of
Product
(D)
(E)

Barriers to
Entry
(H)
(I)

(C)
one

(F)
(G)

(J)
(K)

____23. Refer to Exhibit 25-9. Fill in blanks (H), (I), (J), and (K), respectively.
a. yes; yes; no; no
b. no; no; yes; yes
c. no; yes; yes; yes
d. no; yes; no; yes
Essay
24. List and describe the three assumptions upon which oligopoly behavior are based.
25. Compare and contrast the following market structures: perfect competition and
monopolistic competition.

Sample Questions for Chapter 11, MICRO

Answer Section
MULTIPLE CHOICES
1. ANS:
LOC:

C
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

2. ANS:
LOC:

A
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

3. ANS:
LOC:

C
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

4. ANS:
LOC:

C
PTS:
Oligopoly

Easy NAT: Analytic

5. ANS:
LOC:

A
PTS:
Oligopoly

1
DIF:
NOT:

Moderate NAT: Analytic

New

6. ANS:
LOC:

C
PTS:
Monopoly

DIF:

Moderate NAT: Analytic

7. ANS:
LOC:

B
PTS:
Oligopoly

DIF:

Moderate NAT: Analytic

8. ANS:
LOC:

C
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

9. ANS:
LOC:

D
PTS:
Oligopoly

Difficult

DIF:

DIF:

NAT: Analytic

10. ANS:
LOC:

B
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

11. ANS:
LOC:

B
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

NOT:
New

12. ANS:

Moderate NAT: Analytic

PTS:

DIF:

LOC:

Monopolistic competition

13. ANS:
LOC:

A
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

14. ANS:
LOC:

A
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

15. ANS:
LOC:

D
PTS:
Oligopoly

DIF:

Moderate NAT: Analytic

16. ANS:
LOC:

C
PTS:
Oligopoly

DIF:

Moderate NAT: Analytic

17. ANS:
LOC:

C
PTS:
1
DIF:
Monopolistic competition

Difficult

18. ANS:
LOC:

A
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

19. ANS:
LOC:

A
PTS:
Oligopoly

Easy NAT: Analytic

20. ANS:
LOC:

A
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

21. ANS:
LOC:

C
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

22. ANS:
LOC:

B
PTS:
1
DIF:
Monopolistic competition

Difficult

23. ANS:
LOC:

B
PTS:
1
DIF:
Monopolistic competition

Moderate NAT: Analytic

NOT:
New

DIF:

NAT: Analytic

NAT: Analytic

ESSAY
24. ANS:
The three assumptions of oligopoly are: 1) There are few sellers and many buyers;
and firms are assumed to act interdependently; 2) Each firm in the industry
produces and sells either differentiated products or homogeneous products; and 3)
There are significant barriers to entry (with economies of scale being perhaps the
most significant barrier to entry in oligopoly).
PTS: 1

DIF: Moderate NAT:Analytic

LOC:

Oligopoly

25. ANS:
Both market structures share the following characteristics: many buyers and sellers
and no barriers to entry. Monopolistic competitive firms produce and sell a
slightly differentiated product, while perfectly competitive firms produce a
homogeneous product. In order to help differentiate their products, monopolistic
competitive firms engage in advertising. Perfectly competitive firms typically do
not advertise, although some advertising may be done by a perfectly competitive
industry as a whole. Perfectly competitive firms are price takers, and thus face a
horizontal demand curve for their product. Monopolistic competitive firms are
price searchers, facing a downward-sloping demand curve. A profit-maximizing
firm in either market structure should produce the level of output for which
marginal revenue equals marginal cost.
PTS: 1
competition
NOT:

DIF: Moderate NAT:Analytic

New

LOC:

Monopolistic