perfect comp econ

perfect comp econ - Perfectly Competitive Market Firms are...

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1 Perfectly Competitive Market Assumptions of Perfect Competition Many firms, each small relative to industry. Homogeneous (identical) product. Many buyers. Unrestricted entry and exit. Perfect information (sellers and buyers are well informed about prices). Established firms have no advantage over new ones. Implication: firms are price-takers Firms are price-taking • Firms operating in perfectly competitive markets are said to be price-takers. • Because each firm is small and produces only a fraction of the total amount of goods exchanged, they cannot affect market prices through their output decisions. • This is in contrast to the case of a monopoly or an oligopoly, where firms can influence market prices through their output decisions. We will study this later. Demand curve for a price-taking firm • Although the market demand curve is downward sloping, the demand curve facing any individual firm is flat, or perfectly elastic, at the market price. supply demand P 0 Q 0 P P D i P 0 Market demand Individual firm demand Q i Firm’s Choices • Short-run – Shut-down or keep producing? – If keep producing, how much output? • Long-run – Stay in an industry or leave it? – If stay in industry, change plant size? Profit Maximization in the Short Run Output Output MR, MC TR, TC TR (slope=p) TC (slope=MR) p=MR MC Marginal Cost = TC / Q TC Q $ Q MC = slope of TC $
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2 Profit maximization: total costs and total revenues TR = PQ TC = TFC + TVC Q* Q $ TR TC Profit = TR - TC Profit Maximization in the Short Run Output Output MR, MC TR, TC TR (slope=p) TC p=MR MC Q* Profit Maximization: P = MC TC Q $ Q MC = slope of TC $ TR = PQ P Q* Here slope of TC (MR) = slope of TR = P Profit Maximization: P = MC TC Q $ Q MC $ TR P Q’* TR P P changes, TR changes, Q* changes Q* Q’* Q* Profit Maximization: P = MC MC ATC AVC AFC Q $ P* Q* The firm chooses Q so that MR = MC, or P = MC. Profit Maximizing Condition (Table form) Produce at P=MC (stop before MC>P) Say p*=25 (means MR=25) 245 210 183 160 141 126 TC 30 40 42 40 34 24 Profit (TR-TC) - 150 6 35 27 23 19 15 MC 275 250 225 200 175 TR 11 10 9 8 7 Output
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3 Intuition If p*>MC, then the revenue the firm receives from producing one more unit is greater than the cost of producing one more unit. The firm should produce more. If p*<MC, then the revenue the firm receives from producing one more unit is less than the cost of producing one more unit. The firm should produce less. If p*=MC, the firm is maximizing profits. Profit Maximization: P = MC MC ATC AVC AFC Q $ P* Q* Profits then are TR - TC = PQ - (ATC)(Q) ATC(Q*) Profit maximization: minimizing losses TR = PQ TC = TFC + TVC Q* Q $ TR TC Profit = TR - TC This firm will lose money at every Q. But the loss is minimized at Q*. Producing Q* allows this firm to recoup some of the TFC.
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perfect comp econ - Perfectly Competitive Market Firms are...

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