Lesson plans · AP Micro Unit 4 · MICRO 4.1, MICRO 4.4
Monopolistic Competition and Excess Capacity
Essential question: How can a firm have real pricing power and still end up with zero economic profit in the long run?
1 × 50-minute period · MICRO 4.1, MICRO 4.4 · prints clean with Cmd/Ctrl+P
Objectives
- Students will be able to draw a short-run monopolistically competitive firm earning economic profit at MR = MC.
- Students will be able to explain how entry shifts each firm's demand curve left until it is tangent to ATC.
- Students will be able to identify the three long-run conditions: P = ATC, MR = MC, and demand tangent to ATC.
- Students will be able to locate excess capacity and the markup of price over marginal cost on the long-run graph.
Materials (all free, no student accounts needed)
Warm-up (5 min)
- Project a list of five shampoo brands. Ask: are these firms price takers or price makers, and what one word explains their pricing power? (Differentiation.)
- Cold-call: does this market have high or low barriers to entry? (Low.)
Direct instruction (15 min)
- Draw the short-run graph: it looks like a monopoly (downward-sloping D, MR below it, MC, ATC), but note the demand curve is flatter because close substitutes exist.
- Find the short-run outcome: Qm at MR = MC, price read up on demand, and a profit rectangle if P is above ATC.
- Tell the entry story: low barriers mean profit attracts new firms, each rival pulls customers away, so every incumbent's demand curve shifts left until it is tangent to ATC.
- State the three long-run conditions together: P = ATC (zero economic profit), MR = MC, and demand tangent to ATC on its downward-sloping section, which leaves excess capacity with P above MC.
Guided practice (17 min)
- Project /sandbox/monopolistic-competition with the SR/LR toggle set to Short Run so the profit rectangle is visible.
- Cold-call a student to read the profit rectangle and explain what it will attract (entry).
- Click the Long Run button and have the class narrate what happens: demand slides left, the rectangle vanishes, and demand becomes tangent to ATC.
- With the long-run graph up, have a student point to excess capacity (the gap between the firm's quantity and the minimum-ATC quantity) and to the markup (P above MC).
- Think-pair-share: pairs write one way this long-run graph differs from a perfectly competitive firm's even though both earn zero profit. Take one and correct it to P = ATC greater than MC here versus P = MC = minimum ATC in perfect competition.
Independent practice (8 min)
- Students complete the items at /practice/monopolistic-competition, focusing on the excess-capacity and long-run-tangency questions.
- If time allows, each student redraws the long-run graph and labels excess capacity and the markup.
Exit ticket
- Draw a monopolistically competitive firm in long-run equilibrium and label the tangency point, P, and ATC.
- Why is the long-run demand curve tangent to ATC on its downward-sloping part rather than at the minimum?
- Name the two efficiency shortfalls versus perfect competition (excess capacity and P above MC).
Homework
- Read the 'What Students Get Wrong' section and write two sentences on why the long-run demand curve is NOT horizontal.
- Finish /practice/monopolistic-competition and note any item you missed.
Differentiation
- Support: give students the short-run graph pre-drawn so they only have to shift demand left to the tangency for the long run.
- Stretch: have advanced students contrast this long-run graph with the monopoly graph and explain why the deadweight loss is smaller here.
- For students who finish early, ask them to write the AP wording clues (differentiated products and free entry mean monopolistic competition; barriers to entry mean monopoly or oligopoly).
Misconceptions to head off
- Students think the long-run demand curve becomes horizontal. Correction: it slides left but stays downward-sloping, because the product is still differentiated; horizontal demand would be perfect competition.
- Students draw long-run demand tangent to the bottom of ATC. Correction: the tangency is on the downward-sloping part of ATC, leaving excess capacity with P above both MC and minimum ATC.
- Students read zero economic profit as the firm losing money. Correction: the firm earns a normal return, exactly what the owners would make in their next-best option.
- Students assume monopolistic competition and perfect competition graphs look the same because both earn zero profit. Correction: in perfect competition P = MC = minimum ATC, while here P = ATC is above both MC and minimum ATC.
Teacher FAQ
- Can this fit in one period?
- Yes, if students already know the monopoly graph. This lesson is mostly the monopoly short-run graph plus the long-run tangency, so budget your time for the entry story and excess capacity rather than re-teaching MR = MC.
- What is the prerequisite?
- The monopoly module. Students should be able to find Qm at MR = MC and read the price up on demand before they watch entry compete the profit away.
- How do I grade the long-run graph?
- Full credit requires demand tangent to ATC on its downward-sloping section (not the minimum), P = ATC at that quantity, and MR = MC at the same quantity. A tangency at minimum ATC is the tell that a student is confusing it with perfect competition.
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