Perfect Competition Flashcards
Perfect Competition
Market Structure
Perfect Competition Components
of Firms: Many
Nature of Product: Identical Products
Entry: No barriers
Firm’s Control over Price: None
Monopolistic Competition
of Firms: Many
Nature of the product: Similar but not Identical
Entry: Few Barriers
Firm’s Control over Price: Some
Oligopoly
of Firms: Few
Nature of the Product: Identical or similar
Entry: Many barriers
Firm’s Control over Price: Some
Why do we study Perfect Competition?
Benchmark against which other structures are compared
Approximate Description by a number of industries
Shutdown
A firm’s decision to stop production when market price drops below average variable cost for the profit maximizing Q (where P = MC). Firms that shut down continue to incur fixed costs (e.g., pay rent/capital costs of fixed production factors).
Exit (In the Long Run)
A firm’s decision to leave the industry entirely. Firms that exit no longer incur any fixed costs
Exit and Entry
Firms exit the industry when their economic profit is negative ( if P P^BE)
Efficient Scale of Production
In the long
*Break Even Price
The price at which a seller earns zero profit when producing the profit maximizing quantity , Break Even Price = Average Cost
*Supply Decision
Price = Marginal Cost
Short Run Decision
The firm continues to operate in the short run if, at the profit-maximizing quantity (such that P=MC), the price of output exceeds the average variable cost.
*Short Run: Shape of Supply Curve
For a competitive firm with an upward sloping marginal cost curve, the competitive firms’ short-run supply curve is identical to that part of the short-run marginal cost curve that lies above the average variable cost curve.
*Shape of the Short-Run Industry Supply Curve
The short-run industry supply curve is the horizontal sum of all firms’ short-run supply curves. The industry supply curve is more elastic than individual supply curves.
*Industry in Equilibrium
When individual firms (in a perfectly competitive industry) maximize their profits then the industry is in equilibrium.
*Changing Fixed Costs
Because a change in fixed costs affects neither MC nor AVC, it has no effect on short-run / industry supply
*Changing Variable Costs
Because a change in variable costs affects both MC and AVC, it will have an effect on equilibrium price and quantity.
*Long Run: Firm’s Supply Curve Part 1
As long as firm remains in the industry, the long-run supply curve is identical to the long-run marginal cost curve. The firm’s supply curve is therefore more elastic in the long run than in the short run.
*Long Run Adjustments
In the long run the firm can adjust all production inputs, it can react to price changes in the long run more than in the short run and produce a given item at lower marginal cost than in the short run.
*Exit
When the market price is below the firm’s average cost, the firm earns a negative profit and wants to exit the industry.
*Shape of the Firm’s Long-Run Supply Curve
A competitive firm’s long-run supply curve is identical to that part of the firm’s long-run marginal cost curve that lies about its long-run average cost curve (LRAC).
Economic Profit
Total revenue minus total costs, including opportunity costs of being in another industry. Accounting profits in the relevant industry minus the accounting profits of the second-best industry
Minimum Efficient Scale; Efficient Scale of Production
Level of output Q minimizing the firm’s long-run average costs. The firm’s long-run output
*Long Run: Shape of Industry Supply Curve
The long-run industry supply curve is flat at the break-even price, Long Run Supply = Break Even Price
*Zero- Profit Condition
In long-run equilibrium in a constant-cost industry, all firms earn zero economic profit.
*Long-Run Effect of Demand
A shift in demand has no effect on the long-run equilibrium price (yet an effect on quantity). Long-run equilibrium prices are determined by the supply side, not the demand side.
*Short-Run Firm Supply
The firm’s short-run supply curve is identical to that part of the short-run marginal cost curve that lies above the average variable cost curve.
*Short-Run Industry Supply
The short-run indsutry supply curve is the horizontal sum of all firms’ short-run supply curves. The industry supply curve is more elastic than individual supply curves.
*Long-Run Firm Supply
A competitive firm’s long-run supply curve is identical to that part of the firm’s long-run marginal cost curve that lies above its long-run average cost curve.
*Long-Run Constant-Cost Industry Supply
In long-run equilibrium in a constant-cost industry, the long-run supply curve is flat at the break-even price. All firms earn zero economic profit.
*Long-Run supply in an Increasing-Cost Industry
In an increasing-cost industry, the industry long-run supply curve slopes upward
*Long-Run Supply in a Decreasing-Cost Industry
In a decreasing-cost industry, the industry long-run supply curve slopes downward.
