perfect competion

8/4/2019 Perfect Competion

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Perfect competition


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Perfectly competitive market

many buyers and sellers,

identical (also known as homogeneous)products,

no barriers to either entry or exit, and

buyers and sellers have perfectinformation.


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Demand curve facing a single firm no individual firm can affect the market price

demand curve facing each firm is perfectly elastic


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Profit maximization produce where MR = MC


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P = MR


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Profit-maximizing level of output


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Economic Profits > 0

Economic profit


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Loss minimization and the

shut-down rule Suppose thatP < ATC. Since the firm is

experiencing a loss, should it shut down?

Loss if shut down = fixed costs Shut down in the short run only if the loss

that occurs where MR = MC exceeds the lossthat would occur if the firm shuts down (=

fixed cost) Stay in business if TR > VC. This implies thatP > AVC. Shut down ifP < AVC.


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Economic loss (AVC


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Loss if shut down


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Break-even price If price = minimum

point on ATC

curve, economicprofit = 0.

Owners receivenormal profit.

No incentive forfirms to eitherenter or leave themarket.


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P < AVC


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Short-run supply curve A perfectly

competitive

firm willproduce atthe level ofoutput atwhich P =MC, as longas P > AVC.


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Long run Firms enter if economic profits > 0

market supply increases

price declines

profit declines until economic profit equals zero(and entry stops)

Firms exit if economic losses occur

market supply decreases

price rises

losses decline until economic profit equals zero


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Long-run equilibrium


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LATC

D

Qe

Q

o

SAC1

SAC2

SAC3

SAC4

A competitive firmslong-run equilibrium


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Long-run equilibrium and

economic efficiency P = MR= MC = SATC = LATC

Allocative efficiency: MC = P

Productive efficiency: MC= SATC = LATC Zero economic profit (normal profit) : P = ATC

Two desirable efficiency properties (assuming no

market failure) P = MC (Social marginal benefit = social marginal

cost)

P = minimum ATC


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Consumer and producer

surplus

Gains from

trade =consumersurplus +producer

surplus

Consumer surplus

Producer surplus


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Real Life Example: Agriculture Farmers accept market Price

Cant sell more expensive: no one will buy

Wont sell cheaper: lose $$$

Crop similar (corn is corn)

Costs low to buy/rent farmland compared to

starting a corporation. Farming methods can belearned

Info. easy to find

1 farmer has no control of price


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Other Examples a large auction of identical goods with all potential buyers and sellers

present. eg Free software works along lines that approximate perfectcompetition. Anyone is free to enter and leave the market at no cost.

All code is freely accessible and modifiable, and individuals are free tobehave independently. Free software may be bought or sold atwhatever price that the market may allow.

street food in developing countries. This is so since relatively fewbarriers to entry/exit exist for street vendors. Furthermore, there areoften numerous buyers and sellers of a given street food, in addition to

consumers/sellers possessing perfect information of the product inquestion. It is often the case that street vendors may serve ahomogenous product, in which little to no variations in the product'snature exist.

perfect competion

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