Lecture 1 - Competitive Firms and Markets

Question 1

Market demand curve is derived from…

Answer 1

Each individual consumer.

Question 2

Market supply curve is derived from…

Answer 2

Each individual firm that produces goods.

Question 3

Market structure provides information about…

Answer 3

How firms operating in the market will behave.

Question 4

Market structure is a function of…

Answer 4

• The number of firms in the market.
• The ease or difficulty with which firms can enter and leave the market. (Entry barriers)
• The ability of firms to differentiate their products from those of their rivals. Whether they sell homogenous (identical) or differentiated products.

Question 5

What is perfect compeittion?

Answer 5

One type of market structure in which buyers and sellers choose to be price takers.

Question 6

What is meant by price takers?

Answer 6

A firm is unable to sell its output at a price greater than market price. A consumer is unable to purchase at a price less than the market price. This is what most people mean when they talk about ‘competitive firms’.

Question 7

What are the characteristics of the market structure; perfect competition?

Answer 7

• There are a large number of firms.
• Firms sell identical products.
• Buyers and sellers have full information about prices charged by all firms. There is no asymmetric information, all information is transparent.
• There are low transaction costs. The expenses of finding a trading partner and completing the trade above and beyond the price, are low. Negligible transaction costs.
• Firms can freely enter and exit the market.

Question 8

What are some examples of perfect competition?

Answer 8

Agricultural/commodities markets like wheat and soybeans.

Question 9

Perfect Competition Assumptions: large number of firms.

Answer 9

• No single firm’s actions can raise or lower the price. The more firms in the market the less any one firms output affects the market output and hence the market price.
• Individual firm’s demand curve is a horizontal line at market price.

Question 10

Perfect Competition Assumptions: identical (homogenous) products.

Answer 10

• If all firms are selling identical products, it is difficult for any firm to raise the price above the market price charged by all firms.

Question 11

Perfect Competition Assumptions: full information/no asymmetric information/transparent information.

Answer 11

• Consumer knowledge of all firms’ prices makes it easy for consumers to buy elsewhere if any one firm raised its price above market price.

Question 12

Perfect Competition Assumptions: negligible transaction costs/very low transaction costs.

Answer 12

• Buyers and sellers waste little time or money finding each other.

Question 13

Perfect Competition Assumptions: free entry and exit.

Answer 13

• Leads to large number of firms and promotes price taking.

Question 14

Profit maximisation in this class always refers to…

Answer 14

Economic profit.

Question 15

What is economic profit?

Answer 15

Revenue minus both implicit and explicit cost.

Question 16

In economics the correct measure of cost is the…

Answer 16

Opportunity cost or economic costs.

Question 17

What are explicit costs referred to as?

Answer 17

Accounting costs, such as worker’s wages and the price of materials.

Question 18

What are implicit costs referred to as?

Answer 18

Opportunity costs/economic costs. This is the money you sacrifice from the next best alternative choice.

Question 19

The full opportunity costs of inputs used might exceed the…

Answer 19

Explicit (or out of pocket costs) costs.

Question 20

How does economic profit differ from business profit/accounting profit?

Answer 20

Business profit/accounting profit only subtracts off explicit costs from revenues.

Question 21

What is economic loss?

Answer 21

Business profit minus opportunity costs.

Question 22

What is the long run for a firm?

Answer 22

‘The time it takes the firm to adjust the input levels that are fixed in the short run’. Typically capital but also labour.

Question 23

What is the long run for an industry?

Answer 23

‘The time it takes for firms to enter or exit the industry’.

Question 24

What is an important distinction (key difference) between long run and short run?

Answer 24

In the long run, there are no fixed costs.

Question 25

What are the three scenarios in which LR market supply is not flat?

Answer 25

1. LR market supply when entry is limited.
   - Upward sloping if government restricts number of firms, firms need a scarce resource, or if entry is costly.
2. LR market supply when firms differ.
   - Upward sloping if firms with relatively low minimum LRAC are willing to enter market at lower prices than others.
3. LR market supply when input prices vary with output.
   - In an increasing cost market input prices rise with output and LR market supply is upward sloping.