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196 CHAPTER 10 Perfect Competition ± What Is Perfect Competition? The firms that you study in this chapter face the force of raw competition. We call this extreme form of com- petition perfect competition. Perfect competition is a market in which ² Many firms sell identical products to many buyers. ² There are no restrictions on entry into the market. ² Established firms have no advantage over new ones. ² Sellers and buyers are well informed about prices. Farming, fishing, wood pulping and paper milling, the manufacture of paper cups and shopping bags, grocery and fresh flower retailing, photo finishing, lawn services, plumbing, painting, dry cleaning, and laundry services are all examples of highly competi- tive industries. How Perfect Competition Arises Perfect competition arises if the minimum efficient scale of a single producer is small relative to the mar- ket demand for the good or service. In this situation, there is room in the market for many firms. A firm’s minimum efficient scale is the smallest output at which long-run average cost reaches its lowest level. (See Chapter 9, p. 188.) In perfect competition, each firm produces a good that has no unique characteristics, so consumers don’t care which firm’s good they buy. Price Takers Firms in perfect competition are price takers. A price taker is a firm that cannot influence the market price because its production is an insignificant part of the total market. Imagine that you are a wheat farmer in Kansas. You have a thousand acres planted—which sounds like a lot. But compared to the millions of acres in Colorado, Oklahoma, Texas, Nebraska, and the Dakotas, as well as the millions more in Canada, Argentina, Australia, and Ukraine, your thousand acres are a drop in the ocean. Nothing makes your wheat any better than any other farmer’s, and all the buyers of wheat know the price at which they can do business. If the market price of wheat is $4 a bushel, then that is the highest price you can get for your wheat. Ask for $4.10 and no one will buy from you. Offer it for $3.90 and you’ll be sold out in a flash and have given away 10¢ a bushel. You take the market price. Economic Profit and Revenue A firm’s goal is to maximize economic profit , which is equal to total revenue minus total cost. Total cost is the opportunity cost of production, which includes normal profit . A firm’s total revenue equals the price of its output multiplied by the number of units of output sold (price ± quantity). Marginal revenue is the change in total revenue that results from a one-unit increase in the quantity sold. Marginal revenue is calculated by dividing the change in total revenue by the change in the quantity sold. Figure 10.1 illustrates these revenue concepts. In part (a), the market demand curve, D , and market supply curve, S , determine the market price. The market price is $25 a sweater. Campus Sweaters is just one of many producers of sweaters, so the best it can do is to sell its sweaters for $25 each.
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