perfect competition chapter 9 eco 2023 fall 2007
TRANSCRIPT
Perfect Competition
Chapter 9
ECO 2023
Fall 2007
Market Structure
Describes the important feature of a market such as Number of suppliers Product’s degree of uniformity Ease of entry into the market Forms of competition among firms
A firm’s decisions about how much to produce or what price to charge depend on the structure of the market
Market Models
Pure CompetitionPure Competition Pure MonopolyPure Monopoly Monopolistic CompetitionMonopolistic Competition OligopolyOligopoly
Perfect Competitive Market
A market structure with many fully informed buyers and sellers of a standardized product and no obstacles to entry or exit of firms in the long run
Characteristics
Many independent buyers and sellers Buyers are small relative to the market Standardized product – homogeneous Price takers – individual firms exert no significant
control over product price. Free entry and exit into the industry
Perfectly Competitive Market
Demand under Perfect Competition Firm’s demand is perfectly elastic therefore
the demand curve is horizontal PRICE TAKER
One and only price exists in the market and it is equilibrium price
D
P
Q
Average Revenue
The firm’s demand schedule is also its average revenue schedule
Price per unit to purchaser is also revenue per unit or average revenue
Total Revenue
P X Q Since price is constant, increase in sales of one
unit leads to increase in total revenue = to price. Each unit sold adds exactly its constant price to
total revenue
Marginal Revenue
Is the change in total revenue that results from selling 1 more unit of output
This is the selling price since it is constant Therefore: MR = AR = Price
Short Run Profit Maximization
Each firms tries to maximize economic profit Short run – it has a fixed plant
Therefore output is changed through changes in variable inputs.
It adjusts its variable resources to achieve the output level that maximizes its profit.
Two ways to determine level of output at which a competitive firm will realize maximum profit or minimum loss Compare total revenue to total cost Compare marginal revenue to marginal cost Both apply to all firms Firms that ignore this strategy do not survive
ExampleBushels
per dayTotal Fixed
CostsTotal Variable
costs
Total Cost
Total Revenue
Economic profit or
loss
Q TFC TVC TC TR = P X Q where P =$131
TR-TC
0 $100 $0 $100 $0 -$100
1 $100 90 190 131 -59
2 $100 170 270 262 -8
3 $100 240 340 393 +$53
4 $100 300 400 524 +124
5 $100 370 470 655 +185
6 $100 450 550 786 +236
7 $100 540 640 917 +277
8 $100 650 750 1048 +298
9 $100 780 880 1179 +299
10 $100 930 1030 1310 +280
Graphically
Maximum Economic Profit
Total Revenue
Total Cost
Quantity Demanded
Total Revenue&Total Cost
9
Marginal Revenue Equals Marginal Cost
Marginal revenue The change in total revenue from selling an
additional unit In perfect competition, marginal revenue is equal
to the market price The firm will increase production as long as each
additional units adds more to total revenue than to cost As long as marginal revenue exceeds marginal cost
GraphicallyTotal
Product
Average Fixed Costs
Average Variable
Costs
Average Total Costs
Marginal Costs
Marginal Reven
ueEconomic
Profit
Q AFC = TFC/Q AVC ATC MC MR = P
0 $ 100.00 $ 100.00 $ (100.00)
$ 90.00
1 $ 100.00 $ 90.00 $ 190.00 $ 131.00 $ (59.00)
$ 80.00
2 $ 50.00 $ 85.00 $ 135.00 $ 131.00 $ (8.00)
$ 70.00
3 $ 33.33 $ 80.00 $ 113.33 $ 131.00 $ 53.00
$ 60.00
4 $ 25.00 $ 75.00 $ 100.00 $ 131.00 $ 124.00
$ 70.00
5 $ 20.00 $ 74.00 $ 94.00 $ 131.00 $ 185.00
$ 80.00
6 $ 16.67 $ 75.00 $ 91.67 $ 131.00 $ 236.00
$ 90.00
7 $ 14.29 $ 77.14 $ 91.43 $ 131.00 $ 277.00
$ 110.00
8 $ 12.50 $ 81.25 $ 93.75 $ 131.00 $ 298.00
$ 130.00
9 $ 11.11 $ 86.67 $ 97.78 $ 131.00 $ 299.00
$ 150.00 $ 131.00
10 $ 10.00 $ 93.00 $ 103.00 $ 280.00
Golden Rule of Profit Maximization
MR = MCMR = MC
Perfectly Competitive Market
Short run economic profit
Demand = Marginal Revenue = Price =Average Revenue
$5
$4
12
Price MC
ATC
Profit
Quantity
Profit
Perfectly Competitive Market
Minimizing Short-Run Losses An individual firm in perfect competition has no
control over the market price Price may be so low that a firm loses money no
matter how much it produces Can either produce at a loss Temporarily shut down
Short run A period too short to allow existing firms to leave the
industry
Perfectly Competitive Market
Decision in the short run Continue to produce
A firm will produce if TOTAL REVENUE > VARIABLE COST
Shut down A firm will shut down
TOTAL REVENUE < VARIABLE COST
Perfectly Competitive Market
Short run Losses
Demand = Marginal Revenue = Price =Average Revenue
$5
$4
12
Price MC
ATC
Loss
Quantity
Loss
Perfectly Competitive Market
Perfect Competition in the Long Run If short run has ECONOMIC PROFIT
Firms enter the industry Increase in supply Price drops Continues until NO ECONOMIC PROFIT in the long
run Price = Marginal Cost = Average Total Cost
Perfectly Competitive Market
Perfect Competition in the Long Run If short run has ECONOMIC Loss
Firms leavethe industry Decrease in supply Price rises Continues until NO ECONOMIC PROFIT in the long
run Price = Marginal Cost = Average Total Cost
Perfectly Competitive Market
Productive efficiency The condition that exists when market output is
produced using the least cost combination of inputs Minimum average cost in the long run
Allocative efficiency The condition that exists when firms produce the
output most preferred by consumers Marginal benefits = marginal cost