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Long run equilibrium of the firm under monopolistic competition

In the long run, all the existing firms will earn normal profits. If the existing firms earn super normal profits, the entry of new firms will reduce its share in the market. The Average Revenue of the product will come down. Hence, the size of the profit will be reduced. If the existing firms incur losses in the long-run, some of the firms will leave the industry, thus increasing the share of the existing firms in the market. This will reduce the cost of production, which will in turn increase the profit earned by the existing firms.
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The AR curve touches the LAC curve at point Z corresponding to this point, the quantity is Q1 and the price is P1. At equilibrium, LMC=MR and all the firms only earn normal profits.
An individual firm in the long run is in equilibrium position when it produces a quantity lower than its full capacity level i.e. excess capacity. In the above diagram, the firm could expand its output from Q1 to Q2 and reduce the Average Cost. But, it is not doing so because it would reduce the AR even more than AC. The firm would also have to reduce the price from P1 and P2 to gain extra sales and avoid losses.

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