Consumer Preferences in Monopolistic Competition Models

Tarasov, Alexander (2009): Consumer Preferences in Monopolistic Competition Models.

Abstract

This paper develops a novel approach to modeling preferences in monopolistic competition models with a continuum of goods. In contrast to the commonly used CES preferences, which do not capture the effects of consumer income and the intensity of competition on equilibrium prices, the present preferences can capture both effects. I show that under an unrestrictive regularity assumption, the equilibrium prices decrease with the total mass of available goods (which represents the intensity of competition in the model) and increase with consumer income. The former implies that the entry of firms in the market or opening a country to international trade has a pro-competitive effect that decreases equilibrium prices.

• Item Type: MPRA Paper
• Language: English
• Keywords: firm prices; intensity of competition; consumer income.
• Subjects: F - International Economics > F1 - Trade > F12 - Models of Trade with Imperfect Competition and Scale Economies ; Fragmentation; D - Microeconomics > D4 - Market Structure, Pricing, and Design > D43 - Oligopoly and Other Forms of Market Imperfection

References

Anderson S., A. de Palma and J.-F. Thisse, (1992) "Discrete Choice Theory of Product Differentiation", Cambridge (Mass.), MIT Press.

Dixit, A. and Stiglitz, J. (1977), "Monopolistic Competition and Optimum Product Diversity", American Economic Review, 67(3), 297-308.

Foellmi, R. and Zweimueller, J. (2006), "Income Distribution and Demand-induced Innovations", Review of Economic Studies, 73(4), 941-960.

Hummels, D. and Lugovskyy, V. (2008), "International Pricing in a Generalized Model of Ideal Variety", Journal of Money, Credit, and Banking, forthcoming.

Melitz, M. and Ottaviano, G. (2008), "Market Size, Trade, and Productivity", Review of Economic Studies, 75(1), 295-316.

Perloff, J. and Salop, S. (1985), "Equilibrium with Product Differentiation", Review of Economic Studies, 52(1), 107-120.

Saure, P. (2009), "Bounded Love of Variety and Patterns of Trade", Swiss National Bank, mimeo.

Simonovska, I. (2009), "Income Differences and Prices of Tradables", mimeo.

Singh, S. and Maddala, G. (1976), "A function for size distributions of incomes", Econometrica, 44, 963-970.

Tarasov, A. (2007), "Income Distribution, Market Structure, and Individual Welfare", mimeo.

Van den Berg, J. (2007), "On the Uniqueness of Optimal Prices Set by Monopolistic Sellers", Journal of Econometrics, 141, 482-491

Verhoogen, E. (2008), "Trade, Quality Upgrading, and Wage Inequality in the Mexican Manufacturing Sector", Quarterly Journal of Economics, 123(2), 489-53