5.3 Perfect Competition Flashcards
Why does perfect competition not exist in the real world?
Because it is impossible to meet all six conditions of perfect competition simultaneously
What are the six conditions of perfect competition?
-large number of buyers and sellers
-perfect inflation
-no barriers to entry or exit in long run
-uniform produce
-price takers
-able to sell as much as they wish at the market price
What is a uniform product?
Offers the same price to all segments in the market
Why does perfect competition play a significant role in economic theory?
It provides a measure in which desirable and undesirable properties of real world markets can be measured
What do we use perfect information for in comparison to monopolies(2 asp)
-extent of which misallocation of resources
-judge whether a monopoly functions efficiently or inefficiently
When did Adam smith write his book of the nature and causes of wealth in nations?
1776
What ket thing does Adam Smith say in his book?
Individual doesn’t care about public interest, they only care about their own gain. They are led by the invisible hand of the market
What is Smith’s argument in his book?
The pursuit of individual self interest in the market leads to outcomes which are in the common good or public interest
What are competitive markets viewed as by economists?
Desirable
What are the desirable properties of a free competitive market?
-economic efficiency
-welfare maximisation
-consumer sovereignty
Does economic self interest apply in all types of markets?
Yep
Do consumers benefit from technical progress and why?
Yes because it creates lower prices
Is there abnormal profit in a free market economy?
Nope
What is the ruling price determined by in perfect competition?
The intersection the the supply and demand curves
In a monopoly what curve is the demand curve?
Average revenue curve
What is abnormal profit measured by?
TR-TC
In perfect competition can firms leave in the long run?
Yes
What happens to abnormal profits in the long run
They turn into normal profits as the ruling market price indicates to firms outside the market that normal profits can be made (incentive for firms to enter the market)
What happens if too many firms enter the market initially?
Supply curve shifts to the right
What happens when the supply curve shifts to the left as more firms leave the market?
Causes the price to fall
What happens when a firm makes subnormal profit?
Firms leave the market as there are losses being made
What is subnormal profit on the graph?
Price is below ATC
When firms leave the market what happens to the supply curve?
Shifts to the left and this causes the market price to rise
What are firms attracted to in a market?
Short term abnormal profits
What is productive efficiency in a competitive market
Lowest point on ATC
What is productive efficiency?
When it is impossible to produce one more of a good without producing one less of another good
What is allocative efficiency?
When it is impossible to improve overall economic welfare by reallocating resources between markets P=MC
When is allocative efficiency achieved?
When P=MC
In long run equilibrium a perfectly competitive market is …(2 asp)
-allocativey efficiency
-productive efficient
What are the 3 conditions for both allocative and productive efficiency to occur?
-all firms in the market benefit from economies of scale. This is unlikely because each firm produced a small part of market output
-there are no externalities negative or positive
-perfect competitive markets for all goods and services including take this point further every firm in every market throughout the world even if all the conditions of perfect competition can be met
What differentiates a firms product form those of its competitors?(4 asp)
-advertising
-packaging
-brand-imaging
-position of after-scale services
What is the only form of competition available to firms whilst marinating the conditions of perfect competition?
Cost cutting competition
Why is cost cutting competition likely in perfect competition?
Each firm has an incentive to reduce costs in order to make abnormal profit
Is there a choice in perfect competition?
No because all the goods are the same
What is the price of a good?
The measure of value of consumptions from consumers on the last unit consumed
What does MC measure?
Good’s opportunity cost in production (value of resources that go into production of the last unit)
What happens to consumers when P>mc?
They pay a higher price for the consumption and it discourages consumption
Good is under produced and under consumed
What happens when p<mc?
Value placed on last unit consumed is less than the MC of the resources used to produce the last unit
(Good is over produced and over consumed at this price)
What can’t happen past MC=P?
No more reallocation of resources can Improve consumer welfare
When does allocative inefficiently occur?
When P>MC and when MC>P
Diagram for a perfectly competitive firm maximising profit in the short run?
Why does this firm barge C1 at Q1 here
Because it is profit maximising
Diagram for a perfectly competitive firm maximising profit in the short rum
-price taker at P1
Profit maximisation at MR=MC
What area on this diagram represents total sales?
Area PQ1AP(output multiplied by average revenue of price)
What area represents total costs to the firm?
Rectangular area O Q1 B C1
(Output multiplied by average cost )
How is abnormal profit of a firm in a perfectly competitive market maximising profit in the short run calculated?
By subtracting total cost rectangle from total revenue rectangle
Diagram for a perfectly competitive form in the long run
-ATC = price no supernormal profits instead normal profits are made
Diagram for perfect competition in the long run(very confusing but stick with it)
Explain this diagram:
When too many firms enter a perfectly competitive market
Diagram 2: supply shifts to the right causing price to fall to P2(firms now make a loss or subnormal profit
Firms leave market and price rises to P3 and supply shifts to the left to S3
