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Generate QuizThe 'Excess Capacity Theorem' associated with Monopolistic Competition suggests that in the long run, firms in this market structure will:
- Produce at the absolute minimum point of their average cost curve, achieving perfect productive efficiency
- Produce an output level that is less than the output required to minimize average costs, leaving some capacity idle
- Collude to fix prices exactly like a pure monopoly
- Be forced out of business due to perfect competition
Answer: Produce an output level that is less than the output required to minimize average costs, leaving some capacity idle
Because firms in monopolistic competition sell differentiated products, their demand curves are downward sloping. In long-run equilibrium, the firm's demand curve is tangent to the Average Cost curve on its downward-sloping portion, *before* it reaches the minimum point. This means the firm produces less and charges more than a perfectly competitive firm, resulting in structural 'excess capacity' or inefficiency.