Perfect competition Flashcards
Key assumptions and characteristics
-Homogenous products
-All firms have equal access to FOP
-Large numbers of buyers and sellers
-Free entry and exit from the market
-Perfectly elastic demand curve as firms are price takers
-Perfect information for buyers/sellers
-Profit and utility maximisation is assumed as a key objective
Price and output in perfect competition - short run
The market price is set by the interaction of market demand and supply. This becomes the AR and MR curve for the firm. AR=MR for every level of output. The aim of each firm is to find the profit maximising output which is price(AR=MR) = marginal cost
Adjustment to the long rum
If most firms are making abnormal profit, it encourages the entry of new firms which is easy because there are no barriers to entry. This causes an outward shift in the market supply, forcing the market price down. Prices and profits fall until price = LRAC and firms are earning normal profit. This means theres no more incentive for firms to move into the industry as long run equilibrium has been reached where price=average cost at MR=MC
The shut down price
When the price is less than the average variable cost, this means that the firm is losing money by continuing production.
Evaluating assumptions of the model
-Most firms have some price setting power - not price takers
-There are always information gaps facing consumers
-Rare for entry and exit to be free
Allocative efficiency
P(AR=MR)=MC
Productive efficiency
The lowest point of the ATC curve. Attained in the long run and if a firm produces at this point they are also X efficient
