Between Competition and Monopoly

In this chapter, we discuss the basic elements of the neoclassical theory of the firm and competition. We begin with the evolution of the notion of competition as a dynamic process of rivalry of firms in their struggle for dominance and continue with the neoclassical notion of competition as an “end state”, and we discuss the different types of returns to scale. Sraffa demonstrated that neither the increasing returns to scale nor the decreasing returns to scale are consistent with the assumption of perfect competition in the determination of the supply curve in the industry. The only assumption that is consistent with perfect competition is the case of constant returns to scale, which, however, leads to implausible results. Pierro Sraffa, in his articles (1925, 1926, and 1930), concluded that the way out of this conundrum is to sidestep perfect competition and adopt in its place the notion of monopolistic or imperfect competition. His suggestion was pursued by economists in Cambridge England (mainly J. Robinson and Richard Kahn) during the 1930s. In the same time period, in Cambridge–Massachusetts, we had the monopolistic competition revolution (mainly E. Chamberlin, J. Bain). These developments in both Cambridges faced criticism from the economists of Chicago University. Thus, during the 1930s, we had a revolution in microeconomic analysis known as “imperfect competition”, which was taking place, at the same time, as the macroeconomic revolution of Keynesian economics.