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MGE Final Exam Review

MGE Final Exam Review - Managerial Decisions in Competitive...

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Managerial Decisions in Competitive Markets (Chapter 11) Price-taking behavior, which is the hallmark of competitive markets, arises because each individual firm in the market is so small relative to the total market that it cannot affect the market price of the good or service it produces by changing its output. Furthermore, all firms produce a homogeneous or perfectly standardized commodity, and thus no buyer would be willing to pay more than the going market price for any firm’s output. For this reason, firms in competitive markets face perfectly elastic demand curves and possess no market power to change price. Managers of competitive firms can only choose output (or inputs) to make the most of market-determined prices over which they have no control. While the conditions of perfect competition do not precisely describe real-world markets, many markets come so close to the situation that firms face nearly horizontal demand curves and behave as price-takers. This chapter provides the profit-maximizing rules for managers who operate as price-takers. Managers who operate in competitive markets are likely to feel somewhat helpless in their efforts to deliver profits to the firm’s owners. Managers in competitive markets possess little or no market power because there are so many firms producing goods or services that buyers view as essentially identical. As price-takers, the managers can only react to market-determined prices by adjusting output to maximize any profits or minimize any losses that may occur in the short run. In the long run, the prospects for earning profit are slim because entry into competitive markets is unrestricted and any short-run profits will be competed away by entry of new firms.
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