MODULE 22 (58) Introduction to Perfect Competition

2. MODULE 22(58)Introduction to Perfect Competition

3. How a price-taking firm determines its profit-maximizing quantity of output • How to assess whether or not a competitive firm is profitable

4. Production and Profits • The price-taking firm’s optimal output rule says that a price-taking firm’s profit is maximized by producing the quantity of output at which the marginal cost of the last unit produced is equal to the market price. • Regardless of market structure, optimal output rule is: produce up to the point where MR = MC • In perfectly competitive markets, not in other markets, MR = Avg. Revenue = P • So, producing at P = MC is same as MR = MC. • Refresh your memory: What is marginal revenue?

5. Short-Run Costs for Jennifer and Jason’s Farm

6. The Price-Taking Firm’s Profit-Maximizing Quantity of Output Price, cost of bushel MC $24 20 E MR = P 18 Optimal point 16 The profit-maximizing point is where MC crosses MR curve at an output of 5 bushels of tomatoes. 12 Market price 8 6 0 1 2 3 4 5 6 7 Quantity of tomatoes (bushels) The horizontal line with the height of the market price represents the perfectly competitive firm’s demand, marginal revenue, and average revenue—the average amount of revenue taken in per unit—because price equals average revenue whenever every unit is sold for the same price.  Profit-maximizing quantity

7. When Is Production Profitable? • If TR > TC, the firm is profitable. • If TR = TC, the firm breaks even. • If TR < TC, the firm incurs a loss. *Note: At times the marginal revenue at a given output may be greater than the marginal cost. This is preferable to a firm if the next unit creates a marginal revenue that is less than the marginal cost. They don’t have to equal but as close to equal without the MR<MC.

8. Short-Run Average Costs for Jennifer and Jason’s Farm

9. Costs and Production in the Short Run Price, cost of bushel $30 MC Minimum average total cost 18 A T C C Break even price MR = P 14 At point C (the minimum average total cost), the market price is $14 and output is 4 bushels of tomatoes (the minimum-cost output). 0 1 2 3 4 5 6 7 Quantity of tomatoes (bushels) Minimum-cost output This is where MC cuts the ATC curve at its minimum. Minimum average total cost is equal to the firm’s break-even price.

10. Profit, Break-Even or Loss • The break-even price of a price-taking firm is the market price at which it earns zero profits. • Whenever market price exceeds minimum average total cost, the producer is profitable. • Whenever the market price equals minimum average total cost, the producer breaks even. • Whenever market price is less than minimum average total cost, the producer is unprofitable.

11. A producer chooses output according to the optimaloutput rule:produce the quantity at which marginalrevenue equals marginal cost. • For a price-taking firm,marginal revenue is equal to price and its marginal revenuecurve is a horizontal line at the market price. Itchooses output according to the price-taking firm’soptimal output rule:produce the quantity at whichprice equals marginal cost. • A firm is profitable if total revenue exceeds total cost.