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I do not want to put many constraints on the structure of the problem, except by defining a competitive equilibrium as such where firms are price takers in the factor and good(s) market, and, perhaps (?), that firms make no profits.

For example, is it possible to have something like "competitivistic" competition, where consumers have love for variety and firms produce differentiated goods, yet, instead of monopolistic competition, firms do not charge a markup, because there is free entry, so that firms end up producing at zero profit?

Or for example, a model of consumers geographically immobile, and where differentiated transportation costs across regions mean firms need to charge a markup to pay for that cost, and where, again, free entry deter firms from exploiting consumers?

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  • $\begingroup$ In monopolistic competition there is free entry and firms do end up making zero profit in the long run equilibrium. From wikipedia: "The long-run characteristics of a monopolistically competitive market are almost the same as a perfectly competitive market. [...] A firm making profits in the short run will nonetheless only break even in the long run because demand will decrease and average total cost will increase. This means in the long run, a monopolistically competitive firm will make zero economic profit." $\endgroup$
    – Giskard
    Apr 24, 2017 at 16:29
  • $\begingroup$ A standard General Equilibrium model with production has all the properties you listed. Producers and Consumers are price takers. Consumers love variety - so all the varieties appear in their utility functions. Consumers supply inputs and demand output. Producers demand inputs and supply output. $\endgroup$
    – Amit
    Apr 24, 2017 at 23:56
  • $\begingroup$ @denesp Very true. Thanks for pointing that out. $\endgroup$
    – luchonacho
    Apr 25, 2017 at 8:58

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As a starting point, you might take a look at Stigler's model of price dispersion. Quoting from a resource I found online,

George Stigler’s 1961 “The Economics of Information” begins with:

"One should hardly have to tell academicians that information is a valuable resource: knowledge is power. And yet it occupies a slum dwelling in the town of economics."

Stigler documents the existence of price dispersion empirically, and proceeds to sketch various theories that might be applicable to price dispersion. Stigler is careful to distinguish price dispersion, which results from imperfect information on the part of consumers, from price discrimination, which involves distinct prices for different types of consumer preferences

There are various reasons that price dispersion might arise. Clearly some consumers must be willing to pay higher prices than others, that is, distinct consumers have distinct reservation prices. (Note that a reserve price – the minimum bid in an auction – is a very different concept.) Differences in reservation prices can arise because of differences in knowledge – some consumers have access to price lists, others don’t – or search costs. If some consumers have lower search costs, then these consumers will search for lower prices.

You might also check out the Wikipedia articles on Price Dispersion and Search Theory.

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  • $\begingroup$ Thanks! I was not aware of such paper. Looks quite interesting. So basically, by departing from homogeneous good or perfect information, we can have perfect competition with price heterogeneity. I got a better picture now. $\endgroup$
    – luchonacho
    Apr 25, 2017 at 9:00

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