Week7.PerfectCompetition.2010

Week7.PerfectCompetition.2010 - Week 7 Perfect Competition...

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Week 7 – Perfect Competition But first, let’s finish up from last week… We have been talking about short run costs and how the business firm responds to those costs (and to revenues) in order to maximize profit in the short run. What about long-run costs of the individual business firm? Are they different? Yes. 1
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In LR, two things happen: 1. Each firm chooses the optimal amount of capital equipment (all choices open). 2. Firms enter or exit a perfectly competitive industry (in search of profit > 0 or to avoid long-run losses) We will look at #2 later. Focus on #1 right now. Each SRAC (or SAC) is associated with one level of capital Draw the set of short-run average cost curves (one for each possible level of capital equipment) Draw the long-run average cost curve as the “envelope” of the short-run curves 2
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3 0 Cost per unit quantity Quantity produced per unit of time
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4 0 Cost per unit quantity Quantity produced per unit of time
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General shape of LRAC (or LAC) U-shaped q MES = output associated with minimum efficient scale Regions: IRTS, CRTS, DRTS 5
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6 0 Cost per unit quantity Quantity produced per unit of time
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Perfect Competition – the main model for microeconomics - the firm in SR - the industry in SR - the firm in LR - the industry in LR - the dynamics of SR and LR adjustments to a “shock” – how does equilibrium change in SR and LR - too much material to complete in one week, but included here because it is all one model. 7
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Perfect Competition 1. Many buyers, many sellers (price takers) 2. Homogeneous good…standardized (no brand loyalty) 3. Free entry and exit (no barriers to competition) 4. Perfect information (consumers do not make mistakes…always find the lowest price) 8
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Typical cost situation facing perfectly competitive firm: Rising MC in SR because of diminishing marginal product of labour (note that TC = (P L L) + (P K K), so that dTC/dL = P L Also, we can write the marginal product of labour as MP L = dq/dL [where q = f(K, L)]. Therefore, the ratio P L /MP L = (dTC/dL)/(dq/dL) or dTC/dL dL/dq = dTC/dq In other words: MC = P L L !) U-shaped AVC and AC curves AFC declining as output increases Look like diagram on next page… 9
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10 0 AVC MC Cost per unit quantity Quantity produced per unit of time AC AFC
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Simplified a bit… 11 0 AVC MC Cost per unit quantity Quantity produced per unit of time AC
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Week7.PerfectCompetition.2010 - Week 7 Perfect Competition...

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