Microeconomics - perfect Competition

Question 1

Characteristics of a perfectly competitive market

Answer 1

o Many buyers and sellers
o Sellers are price takers
o Free entry to and exit from the market
o Perfect knowledge
o Homogeneous goods
o Firms are short run profit maximisers
o Factors of production are perfectly mobile

Question 2

What can happen in the short and long run

Answer 2

In the short run, firms can make supernormal profits. In the long run where profits are competed away, only normal profits are made.

Question 3

Draw a price taking firm for a perfectly competitive market in the short run

Answer 3

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Question 4

Draw a price taking firm for a perfectly competitive market in the long run

Answer 4

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Question 5

Advantages of a perfectly competitive market

Answer 5

In the long run, there is a lower price.
P =MC, so there is allocative
efficiency

Since firms produce at the bottom of
the AC curve, there is productive
efficiency.

The supernormal profits produced in
the short run might increase dynamic
efficiency through investment.

Question 6

Disadvantages of a perfectly competitive market

Answer 6

In the long run, dynamic efficiency
might be limited due to the lack of
supernormal profits.

Since firms are small, there are few or
no economies of scale.

The assumptions of the model rarely
apply in real life. In reality, branding,
product differentiation, adverts and
positive and negative externalities,
mean that competition is imperfect.