3.4.2 Perfect Competition Flashcards
Assumptions of perfect competition model?
- Firms aim to max profits
- Many participants (buyers and sellers)
- Product is homogenous (no brand loyalty)
- No barriers to entry or exit from the market
- Perfect knowledge of market conditions
- No externalities
Many participants?
So many buyers and sellers such that no individual trader is able to influence the market price
Sellers: limited EoS
Homogenous product?
Buyers see all goods in market as identical
No brand loyalty so no individual seller able to influence market price
Perfect knowledge?
Buyers always know prices and can buy goods at cheapest possible price (firms that charge above market price get no takers)
Traders aware of product quality
Shape of demand/AR curve in perfect competition in the short run?
Perfectly elastic (——-), firms are price takers and have to accept whatever price is set in the market
Why are firms price takers under perfect competition?
Buyers won’t buy at higher price due to perfect knowledge
No incentive for firms to lower price because they can sell as much output as they want at the market price
Why does short-run MC curve represent short-run demand curve?
If market price was to change, firm would react by changing output, but choosing to supply at MR=MC
The Q firm would supply at any given price
Only when SMC is above SAVC (shut-down point)
Industry supply curve?
Σ SMC curves
What happens in SR when firms make supernormal profit?
Freedom of entry = attractive to other firms = firms enter market = industry supply curve shifts to the right = fall in market price = return to normal profit
If prices fell even further, some firms would exit the market and process would go into reverse
What types of efficiency do firms achieve under perfect competition?
LR: productive efficiency (LR equilibrium diagram)
SR + LR: allocative efficiency (firms always choose to supply at MR=MC)
