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Chapter 9 Price-taking Model

Chapter 9 Price-taking Model. Contents:. Market Conditions of a Price-taking Market Demand and Revenue Curves of a Price-taker Equilibrium of a Wealth-Maximizing Firm Short Run Model Long Run Model Efficiency and Price-taking Market Appendix I Appendix II Appendix III. Contents:.

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Chapter 9 Price-taking Model

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  1. Chapter 9Price-taking Model

  2. Contents: • Market • Conditions of a Price-taking Market • Demand and Revenue Curves of a Price-taker • Equilibrium of a Wealth-Maximizing Firm • Short Run Model • Long Run Model • Efficiency and Price-taking Market • Appendix I • Appendix II • Appendix III

  3. Contents: • Advanced Material 9.1 • Advanced Material 9.2

  4. Market

  5. What is a market? • A market (市場) is a system governed by a set of rules or customs under which a well-defined good is exchanged.

  6. Price-taking markets • A price-taker: is a participant who • cannot affect the market price • has to take (accept) whatever price that the market determines. • To a price-taker, • the market is a price-taking market or aperfectly competitive market.

  7. Price-searching markets • A price-searcher : is a participant who • canaffect the market price • has tosearch for the wealth-maximizing price. • To a price-searcher, • the market is a price-searching market or an imperfectly competitive market

  8. Conditions of a Price-Taking Market

  9. Conditions of a price-taking market 1. Large/Small number of sellers Large 2. Homogeneous/Heterogeneousgoods Homogeneous Perfect 3. Perfect/Imperfect information Free 4. Free/Restricted entry and exit

  10. Violation of conditions • The market with only one seller is a _________. • The market dominated by a few large sellers is an __________. • The market with a large number of small sellers but selling heterogeneous goods or having imperfect information is a ______________________. monopoly oligopoly monopolistic competition (Options: monopolistic competition / oligopoly / monopoly)

  11. Demand and Revenue Curves of a Price-taker

  12. $ d q 0 Demand curve A price-taker cannot influence the market price. The price is a constant irrespective of its quantity supplied. What is the shape of its demand curve? • The demand curve faced by a price-taker is ___________ at the prevailing market price. horizontal (Options: vertical / horizontal)

  13. Q9.2: “As the demand curve faced by a price-taker is horizontal, the market demand curve, which is the horizontal sum of all individual demand curves, must also be horizontal.” Discuss.

  14. $ MR = AR q 0 MR and AR curve A price-taker cannot influence the market price. What will be the shape of its MR curve & AR curve? horizontal • Its MR curve and AR curve are __________at the prevailing market price. • They coincidewith the demand curve. (Options: vertical / horizontal) = d

  15. Equilibrium of a Wealth-maximizing Firm

  16. $ MC Loss Loss MR Gain q 0 q* q’ • Output between q’and q*: • MR > MC • Wealth  in producing them • Output beyond q*: • MR < MC • Wealth  in producing them • Output below q’: • MR < MC • Loss incurred Derivation:

  17. $ MC Loss Loss MR q 0 Gain Wealth-maximizing output q* q’ Equilibrium conditions 1. MR = MC 2. MC curve cuts MR curve from below 3. In the short run, AR  AVC and in the long run, AR LRAC

  18. Q9.3: (a) At q*, MR = MC. The marginal gain is zero. Explain why it is wealth-maximizing. (b) At q’, MR = MC. Explain why it is not wealth-maximizing. (c) In the short run, if ATC > AR > AVC, explain why the output is still worth to be produced.

  19. Short-run Model

  20. $ MC ATC^ Suspend production ATC AVC^ AVC P^ q 0 q^ Wealth-maximizing output level at a pricebelow AVC Thelossif suspend production = TFC = AFC^ x q^ = (ATC^ -AVC^) x q^ D^= MR^=AR^

  21. $ MC Produce atq0 ATC AVC d0 = MR0 = AR0 q 0 Wealth-maximizing output level at a price equal to AVC The lossif produce at q0 = TFC = AFC0 x q0 = (ATC0 -AVC0) x q0 ATC0 P0= AVC0 q0

  22. $ MC ATC Produce atq1 ATC1 d1 = MR1 =AR1 P1 AVC AVC1 q 0 q1 Wealth-maximizing output level at aprice above AVC but below ATC The lossif produce at q1 < TFC

  23. $ MC d2 = MR2 = AR2 Produce atq2 P2 ATC ATC2 AVC AVC2 q 0 q2 Wealth-maximizing output level at a price above ATC The net receiptif produce at q2

  24. $ Supply Curve ATC AVC P0 q 0 q0 Short run supply curve of a price-taker • For P < min. AVC, Qs = 0 units. The supply curve coincides with the y-axis. • For P > min. AVC, the supply curve coincides with the MC curve.

  25. P P P S sa sb P1 P1 P1 0 qa1 qa 0 qb 0 Q qb1 Q1 Firm a Firm b Market Short run market supply curve of a price-taking industry … + …

  26. $ S P* D 0 Q Q* Determination of the equilibrium price The equilibrium price is determined by the intersection point of the market demand and the market supply curves.

  27. Long-run Model

  28. q Long run adjustment 1. Producing at the output where MR equates LRMC • MR = LRMC $ LRMC LRAC • LRMC curve cuts MR curve from below P MR=AR • AR  LRAC q 0

  29. $ LRMC Positive Net Receipt LRAC P’ MR’=AR’ q 0 q’ 2. Entry and exit until zero net receipt and production at the optimum scale are attained • At q’ (MR = LRMC)AR’ > LRAC’ • Positivenet receipt   • New firms enterS & P

  30. Negative Net Receipt $ • At q’’ (MR = LRMC)AR’’ < LRAC’’ LRMC LRAC • Negative net receipt  MR’’=AR’’ P’’  • Some firms leave. • S  & P q 0 q’’

  31. q* • At q* (MR = LRMC),AR* = LRAC* $ LRMC LRAC* • Zero net receipt P* • No entry nor exit MR*=AR* Long run equilibrium q 0

  32. Long run market supply curve • In the long-run equilibrium, • P always equates the minimum LRAC.

  33. Long run market supply curve • The long-run market supply curve (relating P to Q) is actually relating • the minimum LRAC to Q.

  34. Long run market supply curve • According to the relationship between LRAC and Q, • threekindsof long-run market supply curves can be derived: 1. constant-cost 2. decreasing-cost 3. increasing-cost

  35. $ q 0 Long-run market supply curve S1:Increasing-cost industry S2: Constant-cost industry S3: Decreasing-cost industry

  36. P LRAC P* D Q 0 qs Qd Number of firms in a price-taking market Number of identical firms in the industry = Qd/qs

  37. Q9.6: After an increase in market demand, predict what would happen to a price-taking industry in both the short run and the long run – number of firms, price, quantity supplied and net receipt.

  38. Efficiency & Price-taking Market

  39. Pareto efficiency • Pareto optimalityor efficiency is attained if • it is impossible to reallocate resourcesto make an individual gain (better off) • without making other individuals lose (worse off)

  40. Pareto efficiency • Inefficiencyoccurs if • it ispossibleto reallocate resources to make an individual gain (better off) without making other individuals lose (worse off).

  41. Allocation of resources involves three basic economic problems: 1. what to produce? 2. how to produce? 3. for whom to produce?

  42. Correspondingly, three efficiency conditions are defined: 1. production efficiency 2. consumption efficiency 3. allocative efficiency

  43. 1. Production efficiency – defining the criterion of “how to produce” • Production efficiency is attained when • goods are produced at the minimum cost. • then, it will be impossible to raise the output of any goodwithout reducing the outputs of others.

  44. Conditions of production efficiency (production at the minimum cost): • All firms usecost-minimizing production methodsto produce. • MCs of all firms producing the same good are equal. Why?

  45. 2.Consumption efficiency – defining the criterion of “for whom to produce” • Consumption efficiency is attained when • goods are consumed by individualswith the highest MUV. • then, it will be impossible to raise TUV of any individualwithout reducing TUVs of others.

  46. Conditions of consumption efficiency (consumption by individuals with the highest MUV): • MUVsof all individuals consuming the same goodsare equal. Why?

  47. 3. Allocative efficiency – defining the criterion of “what to produce” • Allocative efficiency is attained when • resources are allocated to their highest-valued uses. • then, it will beimpossible to raise the TUV of all the commodities produced.

  48. Conditions to achieve allocative efficiency (allocated to the highest-valued uses): • MUVof each good isequal to itsMC Why?

  49. Situation in a price-taking industry: Behaviours of producers • To maximize wealth, firms have to minimize cost. So they must use the cost-minimizing production methodsin their production. • To maximize wealth, firms produce the output at which MC = MR = P. As they face the same price, MCs of all firms producing the same good are equal. Production efficiency is achieved.

  50. Situation in price-taking industry: Behaviours of consumers • To maximize utility, individuals consume the amount at which MUV = P. • As individuals face the same market price, MUVs of all individuals consuming the same good are equal. Consumption efficiency is also achieved.

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