2. Let's imagine that local retail market is monopolistically competitive. Each firm (and potential entrant) is identical and faces a marginal cost that is constant and equals $100 per unit. Each firm has an annual fixed cost of $300,000 per month. Each active firm perceives itself facing a price elasticity demand equal to -2. (a) Use the inverse price elasticity pricing equation to solve for the optimal price that the firm will charge. P-MC = 1 EQF P-100 = - -> P* = 200 (b) If each firm charges the price you found in part (a), they will evenly split the overall market demand of 96,000 units per month. How many firms will operate in this market in the long-run? You need find the number of firms that would set the profit equal to zero for a single firm. Every firm will sell 96,000 N units, where N is the number of firms in the market. TT = 0 = 200(96,000) ;you) - 100( 96,009) - 300, 000 - 0 = 100( 96,000 ) -300, 000 - 300, 000 = 100 ( 96,000 ) > 3, 000 - 96,000 - N = 96,000 N 3,000 - N = 32 (c) Recalculate parts (a) and (b) assuming that the price elasticity of demand the firms face is equal to -3. P-MC _ P 1 P-100 EQP P P* = 400. 300, 000 = 300( 96,000) - 1, 000 = 96,000 N - - N* = 96 N