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Types of competition and marginal revenue

In imperfect competition, firms have some control over the price they charge, so the individual firm's demand curve is not horizontal. Learn how that fact also changes the marginal revenue curve in this video.

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  • blobby green style avatar for user nicklaus.millican
    Why is the demand curve downward sloping? Is it because the firm would need to charge more in order to produce increasing quantities?
    (2 votes)
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    • sneak peak yellow style avatar for user Dr. Yesimkhan Seidikarim
      Due to law of demand, which says that whenever Price of the good decreases the Quantity Demanded increased, and vice-versa. Meaning that whenever, firm sets a price less than their previous one, their quantity would increase. Why? well, they are in imperfect competition meaning that they have market power, differentiation in products, and barriers all resulting in competition where one rivals price decrease, results in demand decrease in yours.
      (1 vote)
  • blobby green style avatar for user O'Neal, Holly
    I just want to make sure that I understand this video well. So in an imperfect market, there is differentiation between products and prices? If your competitor is selling products at a cheaper price, demand for your product will decrease, and since marginal revenue is directly correlated to this demand, its line will also be downward sloping?
    But in perfect competition, the the lines are more horizontal because this differentiation and variation don't exist?
    (1 vote)
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    • hopper happy style avatar for user Isaac
      The demand curves we have been looking at are always downward slopping because people are willing to buy less when the price is higher. The marginal revenue for the market is the additional revenue that will be generated by increasing product sales by one unit. So by producing one more imput, your marginal revenue is lower than if you could still get the previous price for it. That is why the MR curve sloppes down.
      And it will be lower than the demand curve because before you reach the point that marginal cost actually exceeds the price consumers will pay, you will reach a point where the drop in price from producing one more unit will add up over all your units to exceed the price you will recieve for that unit.

      So if you controll the market, it would make since to stop producing there. But in a perfectly competitive market, no one can stop new firms from entering as long as there is still profit to be made, they don't care if the market was making more money before they showed up: that is why the market price and quantity in a perfectly competitive market is the point at which the marginal cost and demand curve intersect: that is the point at which producing more would not be profitable any more, but the point at which the profit would be greatest is the point at which marginal cost intersects marginal revenue, which comes earlier.

      But we have been talking about the marginal revenue for the whole market. Any individual firm in the market will have to sell its product at whatever that market price is, no matter how much it produces, so in any case its marginal revenue will always be the same: the market price. That is why the MR curve is flat for a firm in a pure competitive market. Each new unit it produces will bring in a constant additional revenue.

      However, in imperfect competition, each firm is its own market for its particular product. From what I have said, you can see why its MR curve will slope down, and why it can produce where MC=MR which will be lower than the price.
      (2 votes)
  • blobby green style avatar for user Kashish
    What role does differentiation play here in the case of marginal revenue?
    (1 vote)
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    • blobby green style avatar for user daniella
      In imperfectly competitive markets, differentiation means that each firm offers a unique product, giving it some control over its pricing. As a firm sells more, it must lower the price to attract additional buyers, due to the unique appeal of its product. This necessity to reduce prices for increased sales causes the marginal revenue—additional income from selling one more unit—to be less than the unit price. Hence, unlike in perfect competition, where marginal revenue equals market price, differentiation leads to a steeper marginal revenue curve, indicating each extra unit sold brings in progressively less additional revenue.
      (2 votes)

Video transcript

- [Instructor] We've already had several videos where we talk about the types of markets that we might look at in economics. At one end, you might have perfect competition, let's write perfect comp, and this is where you have many firms, what they produce is not differentiated, there is no barriers to entry, and in that situation, we have looked at that the market price, the firms just have to take that market price, and that market price is going to describe what their marginal revenue is going to be. No matter how much each of those individual firms produce, they're just going to get that market price, so that marginal revenue will be that market price, but then we looked at a whole sort of what we could call imperfectly competitive firms, imperfectly, imperfect competition. At the extreme, you have the monopoly, where you only have one firm in the market, huge barriers to entry and so that company or that firm essentially is the market and so their demand curve for their product essentially is the market demand curve. But in between, you have things like monopolistic competition right over there, and in monopolistic competition, you have many firms that are competing but they are all differentiated in some way, and there are some barriers to entry. A good example of monopolistic competition or imperfect competition might be the athletic shoe market. In the athletic shoe market, you have many competitors, you have your Nike, Adidas, Reebok, and I could keep listing names, and they are all differentiated in their own way, they all have their own brands, which they have built up over time, they have associations with certain sports figures, some their shoes might be perceived as better in certain categories, but they are also competing with each other. So the competition is that they are competing with each other but you could consider monopolistic competition because only Nike can sell, well, Nike shoes, and so you could imagine a demand curve for say only Nike shoes, so in imperfect competition, every firm would have their own unique demand curve, and how much they produce actually will affect the price that they get for the product or the service, and what we're going to see in this video is when we are dealing with imperfect competition, the demand curve, the price, isn't exactly what marginal revenue is going to be, and to understand that, let's look at a simple model here. So right over here, I have a very simple model of a demand curve for a firm in an imperfectly competitive market, and you can see here that the more that that firm produces of its goods, the lower price it can get for that good, and we can see very clearly this is a classic downward sloping demand curve, but what's going to be really interesting is to think about, what is going to be the marginal revenue, especially the marginal revenue in a world where if they sell one unit, they get 32.50, but when they sell two units, it's not like they'll get 32.50 for one of those units and then they'll get 25 for the second unit. If you have a market price out there for $25, you're going to get $25 on all two units, so even though someone was willing to pay 32.50 for one, they are still only going to pay $25, so let's think about what that does to the marginal revenue. I encourage you to pause this video and try to fill out this table yourself before I do it with you. All right, now let's do it together, so our total revenue, obviously when we sell nothing, we have, let me do this in another color, we have zero total revenue. Now, when we sell one unit at 32.50, well, then our total revenue is going to be 32.50, no surprise there. Now it's going to get interesting. When we sell two units, what's going to be our total revenue? Well, both of those units are gonna be sold at $25, it's not like, as I just said, it's not like that first person is still willing to pay 32.50, like hey, your market price is $25, that's what everyone is going to pay, so now your total revenue is $50, two times $25. Now when you go to three, the market price that you can get is 17.50, let's see, that is going to be, 52.50. 52.50 of total revenue, and then if you, if your market price was $10, you could have a quantity of four. If you wanted to sell four, you could do so at a price of $10, you can do it in either way, but then your total revenue is going to be $40. Now, from this, we can think about, well, what's our marginal revenue? Well, our marginal revenue for that first unit is the same as what the price of that first unit is, we went from zero to 32.50 with that first unit, so that's 32.50 right over here, but what about as we go from that first unit to that second unit? Well, our units go up by one, but our revenue from 32.50 to 50 goes up by 17.50, and so we are already seeing that there is a discrepancy between our marginal revenue and our price, and we can going. When we go from two to three units, our revenue only goes up by 2.50, and so that's going to be our marginal revenue, and then something very interesting happens. As we go from three units to four units, our total revenue actually goes down, it goes down by 12.50, negative 12.50 right over here, and that's because when the price gets that low, you are taking a hit on all of the units that you are selling, so you'll actually get a lower total revenue right over here, and if we plotted, we'll see very clearly that the marginal revenue curve, the parts from the demand curve for that firm that's competing in an imperfectly competitive market, and so we can see here at one unit, our marginal revenue is the same, but at two units, our marginal revenue is 17.50, at three units, our marginal revenue is 2.50, and so we have a marginal revenue curve that looks more like this. So the big takeaway is here that a firm that's operating in an imperfectly market. It isn't just a price taker, it's not that no matter how much it produces it's going to get the same price, it's going to have its own unique demand curve, because there is some differentiation in the market, and so it's going to have a downward sloping demand curve, and because of that downward sloping demand curve, you are also going to have a downward sloping marginal revenue curve and that marginal revenue curve is actually going to be downward sloping at a steeper rate, so when we start doing the firm analysis of marginal cost and where does it intersect the marginal revenue, if you're dealing with a firm that's operating in a perfectly competitive market, that marginal revenue curve when we've seen it before was horizontal, but when we think about that marginal revenue curve for a firm in an imperfectly competitive market, that's going to be downward sloping, it's going to be sloping downward faster than its demand curve.