Monopolistic competition and contestable markets

Abstract

This chapter covers two different approaches to the prediction of firms’ prices and output: the theory of monopolistic competition and the theory of contestable markets. The theory of monopolistic competition considers a market structure that lies between the limiting cases of monopoly and perfect competition, the main feature distinguishing it from perfect competition being product differentiation. The theory of contestable markets tries to explain how output is determined by the cost structure of the industry and the pricing behaviour of firms, with particular emphasis being placed on the effect that potential new entrants may have. Its application is not restricted to any particular market structure. At the end of this chapter there is a table that summarises the main features of the different types of market that have been considered in Chapters 5 to 8.