Sunday, 7 July 2013

Is L'Oréal just making normal profits in the market structure of monopolistic competition?


As we all know, L'Oréal is a biggest company selling cosmetic, beauty and skin care products in the world. Thus, it’s classified as monopolistic competition under market structure. This is due to a large number of firms selling differentiated products and has many close substitutes. Other examples of firms that compete with L'Oréal are Revlon, Avon, Proctor & Gamble and Estee Lauder.

 


The characteristic of monopolistic competition states there’s low barrier to entry and exit the market. So, a firm will only earn normal profits in a LONG RUN. This condition can be explained in TWO situations:


Diagram A 


i.                   Based on Diagram A, when the industries earn supernormal profits, it’ll attract new firms to enter. The average revenue (AR) will drop because each firm has a smaller share of demand due to the increases in products substitution. Thus, the firms earn normal profits.


Diagram B



ii.                  Based on Diagram B, when the industries suffer subnormal profits, some firms will exit in the long run. The average revenue (AR) will rise because each firm has increases share of demand due to the decreases in products substitution. Therefore, the firms earn normal profits.

 




However, L'Oréal didn’t earn normal profits but earning supernormal profits in a long time because L'Oréal stay ahead of its competitors. L'Oréal had achieved sufficient product differentiation. A wide range of products from professional salon brands, mass retail brands to luxury brands have introduced by L'Oréal. So, other firms cannot duplicate them easily. L'Oréal also developed a well-known and strong brand name in the world by emphasizes advertising on its brands. Therefore, L'Oréal has sufficient monopoly power to realize modest economic profits in LONG RUN.

 To understand the characteristic of monopolistic competition more clearly, please watch the short video below:



Reference Links:




Written by,
ONG JIE SHI
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7 comments:

  1. Jingwei11 July 2013 at 21:31

    Hi, can you briefly explain what factor that causes LOREAL can earn supernormal profits even in monopolistic competition?

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    Replies
    1. Unknown12 July 2013 at 11:13

      LOREAL can earn supernormal profit even it is in a monopolistic competition because it always stay ahead of its competitors.

      But how LOREAL can stay ahead of its competitors?

      FIRSTLY, Loreal attribute variety of products compare with its competitors to give a chance for its customer to choose what they want to buy. From mass retail brand to luxury brand. Therefore, there are different type of customer in its company. So, LOREAL can earn profits from wide range of customers.

      SECOND, LOREAL also stress on it advertising. Therefore, LOREAL become famous, well-known and strong brand. In addition, by doing advertising, it can attract consumers. So, everyone knows the brand and they will buy the products.

      THIRD, there is a different price range for LOREAL's products. From cheap to expensive. So, customers can choose which range of price of products they wish to buy. So, LOREAL have different groups of customer. This is benefits for LOREAL because it can earn profit from wide range of customers.

      Delete
  2. Unknown11 July 2013 at 21:51

    I like your post so much as it is explained and illustrated very clearly that what exactly is monopolistic competition. Your example by using L'Oréal as the main idea made me understand this economics concept easily and effectively! But I would like to know about what is the effect to the market while there are other firm which produce the differentiated products as well as close substitutes with L'Oréal?

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    Replies
    1. Unknown12 July 2013 at 11:21

      If there are other firms which produce the differentiated products as well as close substitutes with LOREAL, it will lead LOREAL to earn a lower supernormal profits or normal profits. This is due to the demand of LOREAL products will decreases when they are more substituation. So, when the demand decreases, the average revenue will decreases too.

      Hope my answer is helpful for you to understand. :)

      Delete
  3. Unknown12 July 2013 at 10:29

    Very detailed:)

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    Replies
    1. Unknown12 July 2013 at 11:16

      Hope this post will help you to understand more about MONOPOLISTIC COMPETITION. :)

      Delete
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