Toward a Theory of Monopolistic Competition

45 Pages Posted: 22 Jan 2016 Last revised: 30 Mar 2016

See all articles by Mathieu Parenti

Mathieu Parenti

Catholic University of Louvain (UCL)

Philip Ushchev

National Research University Higher School of Economics

Jacques-François Thisse

Catholic University of Louvain (UCL); Centre for Economic Policy Research (CEPR)

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Date Written: January 21, 2016

Abstract

We propose a general model of monopolistic competition which encompasses existing models while being flexible enough to take into account new demand and competition features. Even though preferences need not be additive and/or homothetic, the market outcome is still driven by the sole variable elasticity of substitution. We impose elementary conditions on this function to guarantee empirically relevant properties of a free-entry equilibrium. Comparative statics with respect to market size and productivity shock are characterized through necessary and sufficient conditions. Furthermore, we show that the attention to the constant elasticity of substitution (CES) based on its normative implications was misguided: constant mark-ups, additivity and homotheticity are neither necessary nor sufficient for the market to deliver the optimum outcome. Our approach can cope with heterogeneous firms once it is recognized that the elasticity of substitution is firm-specific. Finally, we show how our set-up can be extended to cope with multiple sectors.

Keywords: monopolistic competition, general equilibrium, additive preferences, homothetic preferences

JEL Classification: D43, L11, L13

Suggested Citation

Parenti, Mathieu and Ushchev, Philip and Thisse, Jacques-François, Toward a Theory of Monopolistic Competition (January 21, 2016). Higher School of Economics Research Paper No. WP BRP 121/EC/2016. Available at SSRN: https://ssrn.com/abstract=2719560 or http://dx.doi.org/10.2139/ssrn.2719560

Mathieu Parenti

Catholic University of Louvain (UCL) ( email )

Place Montesquieu, 3
Louvain-la-Neuve, 1348
Belgium

Philip Ushchev (Contact Author)

National Research University Higher School of Economics ( email )

Myasnitskaya street, 20
Moscow, Moscow 119017
Russia

Jacques-François Thisse

Catholic University of Louvain (UCL) ( email )

Place des Doyens 1
Louvain-la-Neuve, 1348
Belgium

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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