Research paper on Micro Economics: Monopolistically competitive firms

7 Why do monopolistically competitive firms spend funds for product differentiation and advertising when this practice only adds to the firm’s costs?

Monopolistically competitive firms have to spend considerable funds for products differentiation and advertising because they are essential for the maintenance of their competitive position and prevention of the steady replacement of their products by other products. In such a way, monopolistically competitive firms need to invest into their product differentiation and advertising to keep customers attracted to their products. Monopolistic competition implies that companies hold monopolistic position in the market but they manufacture products that are similar, although not fully substitutable. Therefore, companies need to differentiate their products to show customers that their products are really different and should not and cannot be replaced by other products manufactured by their rivals. If the companies do not conduct the policy of differentiation and advertising, customers can just turn to other companies and their products believing they are substitutes and ignoring the companies that failed to attract their attention and differentiate their products. For instance, a company that holds a monopolistic position in the PC market has to conduct product differentiation and advertising to attract customers. Otherwise, customers can just turn to a company holding a monopolistic position in the laptop market and laptops will steadily replace PCs.

8 Discuss the “Law of Dismissing Returns” as it relates to Consumer Behavior.

In fact, returns are highly dependent on the consumer behavior. Hence, the law of dismissing returns relates directly to the consumer behavior. The law implies that returns of companies can vary consistently depending on the consumer behavior. For instance, if consumers are interested in products and buy them, companies can enjoy the increase of sale rates and, thus, they receive higher returns than they used to. On the contrary, if customers are dissatisfied with the quality, price or other characteristic of the product, they can change their behavior and stop buying the product. As a result, companies will suffer from the drop of the return. At this point, the changes in returns occur respectively to changes in the customer behavior. In such a situation, companies focus on the customer behavior to develop their marketing strategy.