On The Cost and Benefits of Product Differentiation Old title: On the Welfare Effects of Monopolistic Competition with Quality Variation – revised version: On Equilibrium in Monopolistic Competition

Part of Introduction: Firms in market economies compete along several dimensions other than price, and some economists have considered non-price competition to be more important, even to constitute the essence of capitalism. Schumpeter (1950) was notable among the latter, but the past half-century has also witnessed contributions by Borden (1942); Dorfman and Steiner (1954); Galbraith (1969); Kornai (1971, 1980); Weitzman (1989), and Becker and Murphy (1990), among many others. In this context, I expect a "Q market" to exist when each supplier can probably shift its demand by in uencing the extent to which its product is diferentiated. This can be done via expenditure on quality and service improvements,customer assistance, and advertising. Thus Q markets feature non-price competition and are imperfectly competitive.