Question

What is ment by the zero profit equilibrium for monopolistically competitive firms? and why is the demand curve a tangent to its ATC curve?

Answer 1

Zero profit equilibrium for monopolistic competitive firms means that firms are earning normal profit. At this profit total revenue is equal to total economic cost. Total economic cost includes the time given by them for the production along with the money spent on the production.

Demand curve is tangent to ATC curve because at zero profit or normal profit price( determined by demand curve) is equal to cost per unit ( determined by ATC). If the firms are earning positive profit, new firms will enter the market and drive the price lower. If they are earning negative profit, firms will exit driving the price upwards. Thus in long run, p=ATC or demand curve is tangent to ATC.