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Perfect Competition

Explore the characteristics of a perfectly competitive market, such as large numbers of buyers and sellers, standardized products, and free entry and exit. Learn about profit maximization, loss minimization, and long-term equilibrium in a PC market.

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Perfect Competition

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  1. Perfect Competition All kinds of fun and excitement!!

  2. Characteristics of a PC Market • Very large numbers • Both buyers and sellers, so that no one has control • Standardized product • Products must be identical so that no one will pay more for what they perceive to be better quality • “Price takers” • Producers have no control over the price in the market • Free entry and exit • Start up costs and technologies are such that anyone can freely enter the market

  3. Quizzy-Wizzy Woo • Which idea is inconsistent with pure competition? A. short-run lossesB. product differentiationC. freedom of entry or exit for firmsD. a large number of buyers and sellers

  4. Quizzy-Wizzy Woo • A purely competitive firm can be identified by the fact that: A. there are other firms in the industry producing close substitutes.B. it is making only normal profits in the short run.C. its average revenue equals marginal revenue.D. it experiences diminishing marginal returns.

  5. Demand for the PC firm • The PC firm faces a demand curve that neither it, nor the consumer can control • Therefore the firm can only sell at the price determined by the market, and all firms face the same price • This creates a perfectly elastic demand curve • Average revenue and marginal revenue remain constant. • This is because each product sells at the same price, no matter the quantity sold. • This is where we get MRDARP!

  6. Quizzy-Wizzy Woo • In pure competition, the demand for the product of a single firm is perfectly: A. elastic because the firm produces a unique product.B. inelastic because the firm produces a unique product.C. elastic because many other firms produce the same product.D. inelastic because many other firms produce the same product.

  7. Profit Maximization There are 2 approaches: TR-TC and MR=MC • MR=MC • Where marginal cost = marginal revenue • All quantities before this are marginally profitable, all quantities following this are marginally unprofitable The Golden Rule of Economics!!!! MR=MC Learn it, know it, live it!!!!!

  8. Normal Profit/Economic Profit • Firms in a PC market will eventually operate at equilibrium • This LR equilibrium returns a normal profit to entrepreneurs and occurs at: • P= minimum ATC • If the firm is operating above P=minimum ATC they realize an economic profit in the short run • If P > minimum ATC more firms will enter the market to realize the economic profits • Profits will erode away as additional supply lowers the price to LR equilibrium.

  9. Quizzy-Wizzy Woo •  Based on the graph above, the firm is earning: A. zero normal profits.B. zero economic profits.C. zero accounting profits.D. we can say nothing about this firm's profit or loss situation

  10. Loss Minimization and Shutdown • Occasionally a firm will choose to operate at a loss in the short run • This occurs when • P< ATC and P > AVC • This may be more favorable than shutting down however • If a firm can cover all its variable costs, and a part of its fixed costs, it is better than shutting down • A firm will generally shut down when • P < AVC

  11. Quizzy-Wizzy Woo • Let us suppose Chuck's, a local supplier of chili and pizza, has the following revenue and cost structure: A. Chuck's should stay open in the long run.B. Chuck's should shut down in the short run.C. Chuck's should stay open in the short run.D. Chuck's should shut down in the short run but reopen in the long run.

  12. Quizzy-Wizzy Woo • What is the minimum price for this firm to realize a normal profit • $2.60 • $4.00 • $4.90 • $6.70 • $2.80

  13. The MC Curve as the Supply Curve • The MC curve for a PC firm also doubles as the short-run supply curve • This is because P=MR and all firms produce at MR=MC • Therefore PC firms produce where P=MC • Each time P shifts, we produce at a new Q. • The supply curve is simply a set of prices and quantities • The MC curve represents those prices and corresponding quantities

  14. Quizzy-Wizzy Woo • In general, the supply curve of a purely competitive firm is: A. identical to the marginal-cost curve.B. a horizontal line equal to the market price.C. the rising portion of the average-total-cost (ATC) curve.D. the rising portion of the marginal-cost curve above the AVC curve.

  15. Quizzy-Wizzy Woo • If a firm is a price taker, then the demand curve for the firm's product is: A. equal to the total revenue curve.B. perfectly inelastic.C. perfectly elastic.D. unit elastic.

  16. Long Run Equilibrium for a PC firm

  17. Quizzy-Wizzy Woo • In pure competition, price is determined where the industry: A. demand and supply curves intersect.B. total cost is greater than total revenue.C. demand intersects the firm's marginal cost curve.D. average total cost equals total variable costs.

  18. Allocative and Productive Efficiency Productive Efficiency • Occurs at the point where • P= minimum ATC • This means that the firm is producing at the minimum possible cost • Firms use best available production methods and least cost methods • Consumers pay the lowest possible price Allocative Efficiency • Occurs at the point where • P=MC • This means that the firm is providing society with the goods consumers want the most • If a resource is underallocated • P>MC • If a resource if overallocated • P<MC

  19. Quizzy-Wizzy Woo • Productive efficiency refers to: A. cost minimization, where P = minimum ATC.B. production, where P = MC.C. maximizing profits by producing where MR = MC.D. setting TR = TC.

  20. Quizzy-Wizzy Woo • Allocative efficiency refers to: • Maximizing profits • Producing at the lowest possible cost • Using resources most efficiently • Producing what society most wants

  21. Quizzy-Wizzy Woo • Refer to the above graph. It shows the short-run cost curves for a purely competitive firm together with a number of different prices. At what price is the firm making an economic profit? A. P1B. P2C. P3D. P4

  22. Quizzy-Wizzy Woo • Which is true for a purely competitive firm in short-run equilibrium? A. The firm is making only normal profits.B. The firm's marginal cost is greater than its marginal revenue.C. The firm's marginal revenue is equal to its marginal cost.D. A decrease in output would lead to a rise in profits.

  23. Quizzy-Wizzy Woo • When a firm produces less output, it can reduce: A. its fixed costs but not its variable costs.B. its variable costs but not its fixed costs.C. average fixed cost.D. marginal revenue.

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