How a Monopolistic Competitor Chooses its Output and Price

The pizza shop competes with other restaurants but its product is differentiated, so it faces a downward-sloping demand curve rather than a market price. It picks its output the way a monopoly does: produce up to the quantity where marginal revenue equals marginal cost, which here is 40 pizzas, then read the price off the demand curve, which is $16.

Total revenue is the whole rectangle, 40 pizzas at $16, or $640. Total cost is the lighter rectangle, 40 pizzas at an average cost of $14.50, or $580. The difference, the band on top, is the $60 profit. Unlike a monopoly, this firm cannot keep that profit: other restaurants will copy the idea and enter, which is what the next figure shows. The slider raises or lowers the whole demand schedule.