ECON101 Unit 9 Flashcards
What is perfect competition and what are its main traits?
- Many firms sell an identical good/service
- Many perfect substitutes
- Many buyers and sellers (well informed on prices)
- No restrictions to entry
- Established firms have no advantage over new ones
Is each firm a price taker in perfect competition?
Each is a price taker and cannot influence market price
- must take equilibrium price
- each produces small amount of total output
- perfect substitutes
- output is perfectly elastic by all firms
Why must firms accept market price?
If a firm lowers the price = economic loss
If a firm raises the price = consumers will not buy
How does the demand curve look in a perfectly competitive market?
Downward sloping
What is the firms marginal revenue?
MR = market price
What is the goal of each firm?
Maximize economic profit (total revenue-total cost)
How to find profit maximizing output?
Look at firms total revenue and total cost curves
Low/high output = economic loss
Intermediate output = economic profit
When is profit maximized?
Marginal revenue = marginal cost
What happens when a firm makes an economic loss?
Needs to decide to stay or exit:
If it stays… must decide whether to produce or shutdown temporarily
What is the shutdown point?
Price and quantity at which it is indifferent between producing profit maximizing quantity and shutting down
Where is the shutdown point?
At the minimum average variable cost (AVC)
- At this point the firm incurs a loss = to the TFC
- A firm shuts down if it is below the AVC
What is a short run market supply curve?
the quantity supplied by all firms in the market at each price
What does the market supply curve look like at shutdown point?
- Marginal cost curve above shutdown point
- Some will produce shutdown quantity and others will produce 0
- Market supply curve is horizontal
Market supply curve: Change in demand
Increase: right shift, price rises, quantity increases
Decrease: left shift, price falls, quantity decreases
Three profit maximizing outcomes in short run:
1) Break even: Price = ATC
2) Positive profit: Price exceeds ATC
3) Negative profit (loss): Price is less than ATC
What happens in the long-run?
In equilibrium… firms break even b/c firms can enter or exit market
What happens in long-run in terms of entry/exit?
- Firms exit if economic loss
- Firms enter if existing firms are making profit (market price greater than ATC)
- Price goes down, supply increases when more firms enter
- ATC exceeds MR = firms incur economic loss
Long-run: What happens when markets have an economic loss and an incentive to leave?
- Supply decreases, price rises
- Firms exit as long as firms are incurring loss
- In long run, price rises until firms make 0 economic profit
How does increase or decrease in demand affect exiting and entering?
Increase:
- Firms making profit,
- Induces firms to enter increasing supply, prices fall
- Economic profit falls
- Eventually balances and firms make 0 profit = firms no longer enter
Decrease:
- Firms incurring losses/ inducing exit
- Supply decreases, price rises
- Firms increase output
- 0 economic profit, no incentive to exit
Technological advances affect:
- First firms use it to make profit
- As more firms use, market supply increases and price falls
- New tech, more entry
- Lower price, old technology firms incur loss
- All firms use technology = 0 economic profit
What is an efficient use of resources?
When no one can be made better off without making someone worse off
