key term - Short-Run Equilibrium

Definition

Short-run equilibrium refers to the point at which a firm in a monopolistically competitive market maximizes its profits in the short-run, where at least one factor of production is fixed. At this point, the firm's marginal revenue equals its marginal cost, and it cannot increase its profits by adjusting its output level or price.

5 Must Know Facts For Your Next Test

1. In the short-run, a monopolistically competitive firm faces a downward-sloping demand curve, indicating that it can increase its sales by lowering its price.
2. The firm's short-run equilibrium output level is determined by the intersection of its marginal revenue and marginal cost curves.
3. At the short-run equilibrium, the firm's price is set above its marginal cost, allowing it to earn positive economic profits in the short-run.
4. The firm's short-run economic profits provide an incentive for new firms to enter the market, which will eventually drive the firm's profits to zero in the long-run.
5. The short-run equilibrium price and output level are not necessarily the most efficient for society, as the firm may produce at a quantity less than the socially optimal level.

Review Questions

• Explain how a firm in monopolistic competition determines its short-run equilibrium output and price.
  • In the short-run, a monopolistically competitive firm determines its profit-maximizing output and price by equating its marginal revenue and marginal cost. At the point where MR = MC, the firm will produce the quantity that maximizes its profits. The firm then charges the price that consumers are willing to pay for that profit-maximizing quantity, which will be higher than the firm's marginal cost, allowing it to earn positive economic profits in the short-run.
• Describe how the presence of short-run economic profits in a monopolistically competitive market affects the long-run equilibrium.
  • The existence of short-run economic profits in a monopolistically competitive market will attract new firms to enter the industry. As new firms enter, the demand faced by each individual firm will decrease, causing the firm's demand curve to shift to the left. This will continue until the firm's economic profits are driven down to zero in the long-run equilibrium, where price equals the firm's minimum average cost.
• Evaluate the efficiency of the short-run equilibrium in a monopolistically competitive market compared to a perfectly competitive market.
  • The short-run equilibrium in a monopolistically competitive market is generally less efficient than the equilibrium in a perfectly competitive market. This is because the monopolistically competitive firm produces at a quantity less than the socially optimal level, where price equals marginal cost. Instead, the firm sets price above marginal cost, resulting in a deadweight loss to society. Additionally, the firm's production at a point where average cost is not minimized also contributes to the overall inefficiency of the short-run equilibrium in monopolistic competition.

Related terms

Monopolistic Competition:

A market structure characterized by many firms selling differentiated products, where each firm has some degree of market power to set its own price.

Marginal Revenue:

The additional revenue a firm earns by selling one more unit of its product.

Marginal Cost:

The additional cost a firm incurs by producing one more unit of its product.