Monopolistic Competition and Optimum Product Diversity: Reply

Stiglitz, Joseph E.

Authors of the article say that economist John Pettengill's comment on their paper "Monopolistic Competition and Optimum Product Diversity" leads on to interesting issues, even though the substantive points he raises are invalid. Pettengill tests whether there is an excessive number of firms in a monopolistically competitive equilibrium by a device of considerable expository merit. He removes one firm, and redistributes the resources thus released equally over the remaining firms in the sector, to see if welfare can be improved. Pettengill concludes by expressing his view that the authors' framework is inappropriate for the problem. According to the authors, his first point in this connection, that their approach must assume that each consumer consumes a small proportion of each product on the market, is false. Pettengill's preferred approach is the product characteristics model popularized by economist Kelvin Lancaster. For some purposes, particularly that of providing an intuitive feel for the kind of commodities that will be discriminated against in a market, that approach is extremely attractive. However, it suffers from the disadvantage that the derived demand functions are complex, and do not yield results in terms of parameters like the elasticity of demand that most economists have found intuitively helpful.



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American Economic Review

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May 1, 2013