Consumer Utility Maximization and Monopolistic Competition

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Business economics
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Part 1
Question one
In consumer utility maximization, there are two important aspects and they include; the price
of goods within the bundle and the indifference curve good bundles of the consumer. Hence,
the consumer utility maximizing bundle maximizes the overall benefits gained from specific
goods to the point of the Budget constraint (Roth 2012).
The indifference curve represents all combinations of consumer bundles graphically. Hence
each bundle on the indifference curve posses the same utility to the overall consumer (Mankiw
2014). The marginal rate of substitution is represented by the slope of any point on the
indifference curve. The marginal rate of substitution implies the overall willingness to give up
some goods for other goods by the consumer. In other words, this means moving from a
specific likely bundle to another bundle which the consumer is indifferent.
On the graph where there is good y and x. the marginal rate of substitution is the slope among
(x2, y2) and (x1, y1). Also, each and every bundle will be (x, y) coordinate point. Hence, in this
case, the budget constraint where utility is being maximized against must be considered. In
simple terms, a constraint of the Budget is regarded as a function in which B is equal to p2 =
price of good y and p1 = price of good x. Therefore the overall likely bundles or good
combinations, in this case, are B=p2y+ p1x. Therefore given that there is an equal utility on the
entire indifference curve, it is important to find out where the indifference curve intersects with
the Budget constraint in order to effectively maximize it (Free 2010).

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The ratio p1/p2 considering the y/x quantities is the tradeoff between the points on the Budget
constraint. This offers a representation of the MRS among the commodity bundles and thus
where the p1/p2 = MRS = dx/dy the Budget constraint effectively intersects the indifference
curve. This implies when the ratio of price is equal to the marginal rate of substitution the utility
maximizing bundle is attained.
Graph 1 showing the Marginal rate of substitution (Diaz 2012)
Question two
New firms can enter into the market in the long run under monopolistic competition. In most
cases, new firms are attracted to the market due to the profits enjoyed in the short run period
under monopolistic competition. The entry of firms into the monopolistic market, in the long
run, is facilitated by the absence of barriers to entry. In other words, firms are free to enter and

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exit the industry making it easy for firms to effectively penetrate the market in the long run.
The monopolistic competitive market is not like a monopoly market where there are barriers
(Diaz 2012)
.
The long-run equilibrium of a monopolistic competitive market is illustrated below(Diaz 2012)
Thus there is an increase in the supply of differentiated goods due to the entry of new firms
forcing the demand market curve of the firm to move to towards the left. The firm's demand
curve keeps on shifting to the left as more firms enter into the market. The shift continues up to
the point where the firm's demand curve is tangent to the AVC curve at the output profit
maximizing levels as illustrated in the figure above (Crosetto and Gaudeul 2017).
Therefore at such a point, there are zero economic profits and thus new firms cannot penetrate
into the market due to no incentives. The reason why new firms are attracted to the market