Monopolistic

competition and brands

Week 9

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Monopolistic competition and brands

Todays aims
Understand

the concept of monopolistic

competition
Compare monopolistic competition and perfect
competition
How firms differentiate products and their
product/market strategy
Look at the role of advertising and its effects on
business

Reading: Sloman & Hinde Chs. 8 & 12.1

Mulhearn and Vane Ch. 5.6
3

Monopolistic competition and brands

The competition continuum
Market power of firms
Imperfect
competition

Perfect
competitio
n
Many firms
with a
homogeneous
product

Monopolistic
competition

Oligopoly

Monopoly

Many firms
with
differentiated
products

A few
producers
with high
market
power

A single
producer
without
substitutes

Monopolistic competition

Business implications: brands

Monopolistic competition

Monopolistic competition is characterised by:

1.

Large number of agents

Differentiated products
Free entry and exit from the market

2.
3.

The output of each producer is slightly different

from the others existence of varieties (brands)

Monopolistic competition

Because each firm produces a slightly different

good, consumers can have preferences over these
different varieties

There will be an element of brand loyalty in

consumer behaviour, where one variety of a good
will be preferred over another one

Examples: hotels, restaurants, hair dressers, travel

agents, books, etc.

Monopolistic competition

Each firm has a small amount of market power

Because of brand loyalty, it can increase its price

a bit without loosing all its customers
The price elasticity of demand is not infinite
The demand curve facing the firm is downwardsloping (not flat as in perfect competition)
There will be a mark-up: Price is above mC

As firms can enter the market freely, economic

profits are equal to zero in the long-run

Monopolistic competition

How does this work ?

At

the firm level, the short-run equilibrium

diagram looks like the imperfect competition
diagram
It also solves like an imperfectly competitive firm
short run profits

The

adjustment to the long-run behaves like

perfect competition:
Extra firms enter the market, attracted by the
profits (entry is free)
The demand facing each firm decreases until
profits are competed away
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Monopolistic competition
Short-run equilibrium
Firm level
Price
Positive
profits in the
short run

Market level
Price

mC

AC

mR
q

d
D
quantity

Quantity
10

Monopolistic competition
Long-run equilibrium
Firm level
Price
zero profits in
the long run

Market level
Price

mC

Positive profits attract firms

to the market (free entry)

S S

AC
p
p2

mR
q2 q

d
D
quantity

Q Q2

Quantity
11

Monopolistic competition

Business implications: brands

12

Business implications: brands

Non-price
competition

Monopolistic competition integrates the idea of

brands and brand loyalty into competitive
markets
A product may have a multitude of features that
allow product differentiation

Technical standards: technical specifications of the

product
Quality standards: quality of components, of
manufacturing process.
Design standards: Design, colour, etc.
Service characteristics: Products are often sold packaged
with a service
13

Business implications: brands

Vertical product differentiation

Products

are perceived by consumers to be

different in terms of quality
Superior/inferior quality of components
Differences in the costs of production
Essential for positioning in terms of price
Examples:
Cars: Entry level vs. luxury cars
Clothes: Supermarket range vs. designer label

14

Business implications: brands

Horizontal product differentiation

Products

are not perceived by consumers to be

different in terms of quality, but in terms of
tastes
Similar products with similar components/costs
of productions
Price of different varieties often the same
Examples:
Cars: Colour options of a range of cars
Clothes: Sizes/colours of clothes, shoes, etc.

15

Business implications: brands

Market segmentation
Products

are targeted to specific segments of a

given market
Products can be horizontally/vertically
differentiated within that segment
The aim is often to capture the niche in the
market, i.e. a specific target population
Examples:
Cars: Family cars, urban compacts, 4x4, etc.
Clothes: Sports wear, formal wear, casual, urban, etc.

16

Business implications: Growth Vector Matrix

What Marketing strategies are available?

Present

Present

Market
New

Product

Market
penetration

New

Product
development

Market
Diversification
development
17

Business implications: brands

The marketing mix: What matters for

sales?
Product:

quality, reliability, branding and

packaging
Pricing: price discrimination, discounts, price
of competitors
Place: distribution network, location of retail
outlets, warehouse facilities, transportation
issues
Promotion: amount and type of advertising,
selling techniques, other gimmicks
18

Business implications: brands

UK advertising expenditure by product sector
(% of total advertising expenditure)
1986
Retail

2000

2014

14

14

11

17

15

10

12

12

Government

Services

11

17

Durables

21

21

17

Consumables

35

24

23

100

100

100

Industrial
Financial

Total

Source: Slowman et. al. (2016), Table 8.2. Based on data from Advertising
Association/WARC, Expenditure Report, AA/ WARK UK Expenditure (2014).
19

Business implications: brands

The intensity of advertising can be

measured by the advertising / sales ratio
From

high (39% for personal stereos) to very

low (0.02% for petrol or flour).

What explains the differences in

advertising intensity between sectors?
Differences

in market structure

Oligopolies vs. monopolistic competition

Differences

in product characteristics

Consumer durables, new products, etc.

20

Business implications: brands

US advertising /sales ratio: 2014
Product category

Advertising / sales
ratio (%)

Transportation services

26.7

Perfumes, cosmetics, etc.

21.1

Soap, detergent, toilet preparations

12.3

Computer and office equipment

0.6

Hospital and medical plans

0.4

Computer storage divices

0.3

Source: Slowman et. al. (2016), Table 8.4. Based on data from Advertising
Association/WARC, 2014E Advertising Ratios and Budgets, Schonfeld and
Associates, Inc. (2015).

21

Business implications: brands

P

P2
P1

What is the effect of

advertising on the demand
curve ?
The Monopolistic
competition model can help
here!

Shifting the curve outwards

Making the curve steeper

D2
D1

Q1

Q3

Q2

Q
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Business implications: brands

Aims of advertising:
Shifting

the demand curve outwards

Increasing the demand for the product

Making

the demand curve less elastic

Increasing brand loyalty vs. substitutes

This explains why certain types of products

have low advertising /sales ratios
Petrol,

flour, etc.
They already have a large or inelastic demand
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Business implications: brands

Sales (weekly)

Long run effects of advertising on sales:

Habit sales

s2
Direct effect
on sales

Sales

s3
s1

Long-term
effect

Sales
Advertising
campaign

t1

t2

t3

t4

t5

Time
24

Market power through Marketing and

Advertising

25

Conclusion

Monopolistic competition is characterised by

having many firms with differentiated products

Firms also use non-price competition to

distinguish their product

Advertising is an effective tool to gain market

power

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