The relevance of firm ‘exits’ for understanding the gains from trade under conditions of monopolistic competition. Essay Example



Financial Innovation


The case of competition in a market usually comes in cases where there is perfect competition in the market. In the market, however, where there exists monopolistic competition, there are different firms that sell similar product but somehow differentiated from one another. The competition usually, will be based on the pricing, the distance that the product will cover before reaching consumers, and the data that is available to the consumers. All these cases will determine competition in a monopolistic market.

A winner in a monopolistic market will be determined by the satisfaction that will be driven out of the goods and the differentiation done. Exit of a firm in a monopolistic completion will lead to a great impact to the remaining players in the market. The competition and supply of goods that satisfy similar need in the market will reduce due to reduced options in the market. The competition that existed within the market will reduce. The remaining firm will establish its ways of carrying out activities on how to trade and expand their market area as the consumers of firm that exit will start to consume alternatives.

Determination of prices in the market, the quality of products, some goods and services to be supplied, and also, the distribution channels used, will all be determined by the remaining firms and the pressure that the alternative goods will have in the whole process. Reduced market activities mean that there will be fewer cases of innovation as the remaining firms will not have a lot of competition. When the presence of increased competition, it is possible that the firms that will remain will always be on the constant trail of ensuring that they improve their services and also the quality of goods so that they compete favorably in the market. The exit of firms means that the market will have reduced alternative products. The result of lesser products is due to reduction of alternative goods production in the market. The result of this will be the rise of prices of the products, as the remaining players will take advantage of ensuring that they take advantage of the reduced supply of goods to the market (Melitz, 2012, pg. 110).

The relevance of firm ‘exits’ for understanding the gains from trade under conditions of monopolistic competition.

(Tutor2U, 2016)

As indicated in the diagram, the equilibrium will be affected in the case where other firms will exit the market (Greenway, 1995, pg. 19). When one firm exits the market it means that a market gap is left that should be felt by those firms that produce alternative goods. The change of quantity of supply of alternative goods and also the change of demand will result to change of the equilibrium.

Monopolistic competition and exit of firms from the market have a direct impact on the way the remaining firms in the market will be operating. There is a possibility of pressures on the remaining firms, as they will be required to satisfy consumer demand who used to consume the other product resulting to market expansion. However, on the part of firms that shall have remained, they will be taking advantage of the gap and reap huge profits. The trend also may result to decrease the quality of the products produced as the innovation of the firm that exits will not have pressure on them anymore.


Tutor2U, 2016. Monopolistic Competition

M.J.Melitz and D. Trefler (2012) “Gains from trade when firms ma^er “ Journal Of Economic Perspec6ves,26(2), pp.91-118

Greenaway et al. (1995) “Ver8cal and horizontal intra-industry trade: a cross-industry analysis for the United Kingdom“ Economic Journal, pp.1505-18.’