Question 12

There are many price-taking mozzarella cheese producers in Southern Italy. Each of them produces mozzarella of similar quality with identical production technology that gives rise to a U-shaped total average cost curve. There is free entry into and exit from the mozzarella cheese market and potential entrants can expect to produce mozzarella using the same technology as incumbent firms.

(a) Draw a sketch of the cost curves of each mozzarella producer and explain why the supply curve of each producer is the marginal cost curve above average total cost in the long run. [5 marks]

(b) The market price of mozzarella is observed to be higher than the minimum of average total cost. Can this be an equilibrium outcome in the short run? Can this be an equilibrium outcome in the long run? If yes, explain why, if not, identify the equilibrium outcome and explain how it will be reached. Support your answer with suitable diagrams. [15 marks]

(c) The mozzarella producers realise that if they brand their product they will face their own downward sloping demand curve and can set their own price. Can they expect to be more profitable in the long-run if they differentiate their products through branding? Assume that branding does not impact their costs. [10 marks]