Chapter 7. Perfect Competition What is it? Firm behavior Short run Long run What is it? Firm...
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Transcript of Chapter 7. Perfect Competition What is it? Firm behavior Short run Long run What is it? Firm...
Chapter 7. Perfect CompetitionChapter 7. Perfect CompetitionChapter 7. Perfect CompetitionChapter 7. Perfect Competition
• What is it?
• Firm behavior
• Short run
• Long run
• What is it?
• Firm behavior
• Short run
• Long run
Perfect CompetitionPerfect CompetitionPerfect CompetitionPerfect Competition
• many firms, many buyers
• identical product
• easy entry/exit for the market
• prices known
• existing firms have no advantage
• many firms, many buyers
• identical product
• easy entry/exit for the market
• prices known
• existing firms have no advantage
examplesexamplesexamplesexamples
• wheat farming
• dry cleaning
• paper cups
• wheat farming
• dry cleaning
• paper cups
Firm BehaviorFirm BehaviorFirm BehaviorFirm Behavior
• maximize profits
• TR > TC economic profits
• TR = TC normal profits
• maximize profits
• TR > TC economic profits
• TR = TC normal profits
Firm is price takerFirm is price takerFirm is price takerFirm is price taker
• cannot influence price take price as given, choose Q
• firm demand is perfectly elastic horizontal line
• MR = P firm sells all it wants at price, P
• cannot influence price take price as given, choose Q
• firm demand is perfectly elastic horizontal line
• MR = P firm sells all it wants at price, P
Profit maximizingProfit maximizingProfit maximizingProfit maximizing• firm chooses Q to max profits
where TR - TC is largest
-- where MR = MC
• why MR = MC? MR > MC
-- output adding to profit MR < MC
-- output taking away from profit
• firm chooses Q to max profits where TR - TC is largest
-- where MR = MC
• why MR = MC? MR > MC
-- output adding to profit MR < MC
-- output taking away from profit
Market for syrup (all firms)Market for syrup (all firms)Market for syrup (all firms)Market for syrup (all firms)P
Q (cans/day)
D
S
$8
100
Firm’s demand, cost curveFirm’s demand, cost curveFirm’s demand, cost curveFirm’s demand, cost curve
P
Q (cans/day)
$8 D = MR = P
MC
10
• firm is price taker
• what if price too low to earn profit? economic loss will firm exit?
• firm is price taker
• what if price too low to earn profit? economic loss will firm exit?
costs & exitcosts & exitcosts & exitcosts & exit
• firm will stay, in SR, if P > AVC
• why? if firm exits, loses TFC if P = AVC
-- loss from staying
= loss from exit
• firm will stay, in SR, if P > AVC
• why? if firm exits, loses TFC if P = AVC
-- loss from staying
= loss from exit
SR equilibriumSR equilibriumSR equilibriumSR equilibrium
• two cases economic profit economic loss
• two cases economic profit economic loss
Case 1: economic profitCase 1: economic profitCase 1: economic profitCase 1: economic profit
• P = $8, Q = 10
• ATC = $5
• profit = ($8)(10) - ($5)(10) = $30
• P = $8, Q = 10
• ATC = $5
• profit = ($8)(10) - ($5)(10) = $30
case 2: economic losscase 2: economic losscase 2: economic losscase 2: economic loss
• P = $3, Q = 7
• ATC = $5
• profit = ($3)(7) - ($5)(7) = - $14
• P = $3, Q = 7
• ATC = $5
• profit = ($3)(7) - ($5)(7) = - $14
12.3 LR Equilibrium12.3 LR Equilibrium12.3 LR Equilibrium12.3 LR Equilibrium
• entry & exit of firms
• firms earn normal profit economic profit will be zero
• entry & exit of firms
• firms earn normal profit economic profit will be zero
why zero economic profit?why zero economic profit?why zero economic profit?why zero economic profit?
• if economic profit > zero firms enter (S shifts right) price falls profit falls to zero
• if economic profit > zero firms enter (S shifts right) price falls profit falls to zero
P
Q (cans/day)
D
S
$8
100
S’
$5
120
market for syrupmarket for syrupmarket for syrupmarket for syrup
• if economic profit < zero firms exit (S shifts left) price rises profit rises to zero
• if economic profit < zero firms exit (S shifts left) price rises profit rises to zero
P
Q (cans/day)
D
S
$5
120
market for syrupmarket for syrupmarket for syrupmarket for syrup
$3
140
S’’
Shifts in market demandShifts in market demandShifts in market demandShifts in market demand
• change price in SR profits or losses
• in LR affect exit/entry return to zero economic profit
• change price in SR profits or losses
• in LR affect exit/entry return to zero economic profit