Monopolistic competition, dynamic inefficiency and asset bubbles. (Q5958247)

We emphasize the importance of the market structure to determine whether dynamic inefficiency is possible in a closed economy. We analyse alternative monopolistic competition frameworks where the existence of pure profit involves the presence of an asset market. When entry is blockaded, dynamic inefficiency is prevented as each firm uses a discount rate higher than the output growth rate in evaluating future profits. When entry is free but involves sunk costs, we need to distinguish between the possibility of asset bubbles and dynamic inefficiency, the condition for the latter being more stringent. If entry costs increase with per capita output, dynamically inefficient equilibria are possible only when population grows.