Perfect Competition

Question 1

What are the features of a perfectly competitive market?

Answer 1

• homogenous goods
• no Barrier to entry and exit
• perfect information
• many small buyers and sellers

Question 2

What is perfect competition like in the long run?

Answer 2

The chosen level of output is when MC=MR
- making normal profits

Question 3

What’s happens to perfect competition in the short run?

Answer 3

If demand increases, it will move up the price level, and they will earn abnormal profit. However, this creates an incentive for other firms to join the market, especially due to the low barriers to entry. This increases supply until the point where AR=AC again —> back to earning normal profits

Question 4

What is the efficiency of perfect competition?

Answer 4

• it is productively efficient as they are operating at the bottom of the average cost curve - at Pmax
• also allocatively efficient because at Pmax, the price is equal to the marginal cost, which means economic welfare is being maximised.
• it is not dynamically efficient because the perfect competitions only earn normal profits - so don’t have money to invest in R&D/reduce costs etc. this is because average costs equal the price