Lesson 6 - Theory Of The Firm: Perfect Competition Flashcards
How can you distinguish between market structures?
- number of firms
- concentration ratios of the largest firms
- barriers
- amount of product differentiation
What are natural barriers?
- result of a feature of the industry
- economies of scale
- high sunk costs
What are high sunk costs?
- costs that cant be recovered once spent (e.g marketing)
What are artificial barriers?
- erected by firms themselves
- promotion
- predatory pricing
What is creative destruction?
- when the innovation of a new product destroys the market for another
What do many economists argue about creative destruction?
- firms that have innovated will make supernormal profits
supernormal profits will attract firms to these new markets, and as supply increases prices will be lower - benefits consumers in the long run
What is efficiency?
markets operating in a way that most benefits consumers
what is productive efficiency?
when firms produce at the lowest point on the average cost curve
what is allocative efficiency?
resources are allocated in a way that maximises consumer welfare
what is pareto efficiency?
when firms are both productively and allocatively efficient
Describe the characteristics of perfect competition
- no barriers to entry
- identical products
- market sets the price
- firm is a price taker
- no one firm dominates
what happens to supernormal profits in the long run?
- the supernormal profits act as a magnet
- new firms enter the market
- supply increases and the profits are competed away
what happens to subnormal profits in the long run?
- firms fail or leave the market
- supply shifts left
- back to normal profits
at what point is allocative efficiency achieved?
P = MC
