A monopolistically competitive market can have too many firms enter, that is, the number of firms in a market can be greater than the socially optimal number.For there to be too much entry, which of the following needs to occur?

Question

Quizplus · Accepted Answer

In a monopolistically competitive market, firms produce differentiated products, which creates product-variety externality. However, when a new firm enters the market, it results in business-stealing externality for the existing firms. If the business-stealing externality is greater than the product-variety externality, then there will be too many firms in the market. Thus, choice B is correct. Option A talks about the product-variety externality being greater than the business-stealing externality, which would result in too few firms in the market. Options C and D are not relevant in determining whether there is too much entry in a monopolistically competitive market.

A Monopolistically Competitive Market Can Have Too Many Firms Enter