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Perfect Competition and Economic Efficiency

Efficiency. A state of the world is said to be efficient when all opportunities to make someone better off without making anyone worse off are exhaustedmost global conception, often called Pareto EfficiencyUnder ideal conditions, perfect competition is efficient. Maximizing Net Social Benefit. Und

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Perfect Competition and Economic Efficiency

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    1. Perfect Competition and Economic Efficiency

    2. Efficiency A state of the world is said to be efficient when all opportunities to make someone better off without making anyone worse off are exhausted most global conception, often called Pareto Efficiency Under ideal conditions, perfect competition is efficient

    3. Maximizing Net Social Benefit Under ideal conditions, including perfect competition and well-functioning markets, the market equilibrium maximizes the difference between the benefits society gets from goods and services and what it costs society to produce them required for Pareto efficiency

    4. Market supply shows the marginal cost to society of producing the good or service Market demand is the marginal benefit to society from consuming the good or service Optimization (maximization of net social benefit) occurs where MSC=MSB

    5. We know from the theory of perfect competition that market supply is just the horizontal sum of each firms MC curve market supply shows what it costs to produce one additional unit of the good If ALL the costs are incurred by the firms, then supply equals Marginal Social Cost Supply and Marginal Social Cost

    6. Economists measure benefits in terms of the willingness of consumers to pay Market demand shows the maximum willingness to pay for a unit of the good at each level of consumption Demand and Marginal Social Benefit

    7. Suppose that you have a collection of widgets that you want to sell Jane, Dick, Tom, and Harry are willing to pay the following maximum amounts for one widget Willingness to Pay

    8. These individual willingnesses to pay trace out the demand for your widgets

    9. Now suppose that Jane would be willing to buy another if she could get it for no more than $50 Suppose that Dick would also be willing to buy a second widget if he could get it for no more than $20

    11. Suppose there are hundreds of people who would be willing to buy one or more widgets The more buyers, the more steps on our graph until it looks like a smooth line

    13. Putting MSC and MSB Together Where quantity supplied equals quantity demanded, MSC = MSB If less is produced/consumed, then MSB>MSC, which means that having more widgets adds to net social benefit If MSC>MSB, then reducing the number of widgets saves more in cost than those widgets are worth

    15. Perfect Competition Remember the perfectly competitive equilibrium P=MR=MC each firm adjusts output to the point that price equals marginal cost the firm that produces the very last unit incurs a cost equal to the price of the good

    16. Consumption is taken to the point at which the last unit consumed is just worth the price paid by the consumer In a perfectly competitive market, therefore, P = MSC = MSB perfect competition is efficient

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