Lecture 10 Perfect Competition
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Transcript of Lecture 10 Perfect Competition
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7/31/2019 Lecture 10 Perfect Competition
1/16
2010
S1
2010 Pearson Canada
ChapterPerfect Competition
Define perfect competitionLearningObjectives
Explain how firms make their supply
decisions and why they sometimes shut
own temporar y an ay o wor ers
Explain how price and output are
determined, and why firms enter and leave a
market
Predict the effects of a change in demand
and a technological advance
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Explain why perfect competition is efficient
What Is Perfect Competition?
PRICETAKERS
Inperfectcompetition,eachfirmisapricetaker.
Apricetaker isafirmthatcannotinfluencethepriceofagood
.
Nosinglefirmcaninfluencethepriceitmusttakethe
equilibriummarketprice.
Each firms out ut is a er ect substitute for the out ut of the
otherfirms,sothedemandforeachfirmsoutputisperfectly
elasticatthemarketprice.
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What Is Perfect Competition?
Thegoalofeachfirmistomaximiseeconomicprofit,which
equa stota revenue m nustota cost.
Total
profit
=
TR
TC
TR=PxQ
TC=Opportunitycostofproduction
minimisation).
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What Is Perfect Competition?
Figure14.1illustratesafirmsrevenueconcepts.
Part(a)showsthatmarketdemandandmarketsupply
determinethemarketpricethatthefirmmusttake.
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What Is Perfect Competition?
Part(b)showsthefirmstotalrevenuecurve(TR)the
relationshipbetweentotalrevenueandquantitysold.
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What Is Perfect Competition?
Part(c)showsthemarginalrevenuecurve(MR).
Thefirmcansellanyquantityitchoosesatthemarketprice,so
mar inal revenue e uals rice and the demand curve for the
firmsproductishorizontalatthemarketprice.
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What Is Perfect Competition?
Thedemandforafirmsproductisperfectlyelasticbecauseone
firmsTshirtisaperfectsubstituteforthe
s r o ano er rm.
Themarket
demand
is
not
perfectly
elastic
because
a
Tshirtisasubstituteforsomeothergood.
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What Is Perfect Com etition?
economicprofit,giventheconstraintsitfaces.
Sot e irmmust eci e:
1. How
to
produce
at
minimum
cost
2. Whatquantitytoproduce
3. Whethertoenterorexitamarket
.
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The Firms Out ut Decision
Aperfectlycompetitivefirmchoosestheoutputthatmaximises
itseconomicpro it.
One
way
to
find
the
profit
maximising
output
is
to
look
at
the
firmsthetotalrevenueandtotalcostcurves.
.
thefirmstotalprofitcurve.
2010 Pearson Education Australia
The Firms Out ut Decision
Part(a)showsthetotal
revenue,TR,curve.
Part(a)alsoshowsthetotal
costcurve,TC,whichislike
theoneinLecture9.
Totalrevenueminustotalcost
iseconomicprofit(orloss),
shownbythecurveEP inpart
(b).
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The Firms Out ut Decision
Atlowoutputlevels,thefirmincursaneconomic ossitcan tcoveritsfixedcosts.
Atintermediateoutputlevels,thefirmmakesaneconomicprofit.
Athighoutputlevels,thefirmagainincursaneconomiclossnowthe
becauseofdiminishingreturns.
profitwhenitproduces9Tshirtsaday.
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The Firms Out ut Decision
MARGINALANALYSIS
Thefirmcanusemarginalanalysistodeterminetheprofit
.
Becausemarginalrevenueisconstantandmarginalcost
eventuallyincreasesasoutputincreases,profitismaximisedbyproducingtheoutputatwhichmarginalrevenue,MR,equals
, .
Figure14.3onthenextslideshowsthemarginalanalysisthat
determinestheprofitmaximisingoutput.
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The Firms Out ut Decision
,econom c
profitincreasesifoutput
increases.
.
IfMR
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The Firms Out ut Decision
e u own o n
Afirmsshutdownpoint isthepriceandquantityatwhichitis
indifferentbetweenproducingandshuttingdown.
.
ItisalsothepointatwhichtheMCcurvecrossestheAVCcurve.
Attheshutdownpoint,thefirmisindifferentbetween
producingandshuttingdowntemporarily.
ThefirmincursalossequaltoTFCfromeitheraction.
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The Firms Out ut Decision
. shutdownpoint.
n mum s aTshirt.
Ifthe
price
is
$17,
the
profit
maximisingoutputis7Tshirts a da .
.
Thefirmincursalossequal .
Thefirmisattheshutdown
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.
The Firms Out ut Decision
and$20.14,thefirm
roduces the uantit at
whichmarginalcostequals
price.
Thefirmcoversallits
variable cost and at least
partofitsfixedcost.
ncursa oss a s ess
thanTFC.
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The Firms Out ut Decision
THEFIRMSSUPPLYCURVE
A erfectl com etitive firms su l curve shows how the
firmsprofitmaximisingoutputvariesasthemarketprice
varies,
other
things
remaining
the
same.Becausethefirmproducestheoutputatwhichmarginalcost
e uals mar inal revenue and because mar inal revenue e uals
,
price,thefirmssupplycurveislinkedtoitsmarginalcostcurve.
utatapr ce e owt es ut ownpo nt,t e rmpro uces
nothing.
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The Firms Out ut Decision
.
firmssupplycurveis
constructed.
IfpriceequalsminimumAVC,
,
indifferentbetweenproducing
nothingandproducingatthe
shutdownpoint,T.
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The Firms Out ut Decision
epr ce s , e rm
produces9Tshirtsaday,the
uantit at which P = MC.
.
Ifthepriceis$31,thefirm
pro uces
s r sa
ay,
e
quantityatwhichP =MC.
Thebluecurveinpart(b)traces
thefirmsshortrunsupplycurve.
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Out ut, Price, and Profit in the Short Run
MARKETSUPPLYINTHESHORTRUN
byallfirmsinthemarketateachpricewheneachfirmsplant
and the number of firms remain the same.
.
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Out ut, Price, and Profit in the Short Run
Figure14.6showsthe
supplycurveforamarket
thathas1,000firmslike
SamsTShirts.
Thequantitysuppliedby
themarketatanygiven
priceisthesumofthe
quantitiessuppliedbyall
t e irmsint emar etat
thatprice.
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Out ut Price and Profit in the Short Run
Atapriceequaltominimum
AVC,theshutdownprice,
shutdownquantityand
others
will
produces
zero.
Themarketsupplycurveis
.
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Out ut Price and Profit in the Short Run
SHORT-RUN EQUILIBRIUM
Shortrunmarketsupplyand
marketdemanddetermine
themarketpriceandoutput.
Figure14.7showsashort
runequilibrium.
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Out ut, Price, and Profit in the Short Run
ange n eman
Anincreaseindemandbring
arightwardshiftofthe
marketdemandcurve:The
pr cer ses
an
e
quan y
increases.
Adecreaseindemandbring
aleftwardshiftofthe
mar e eman curve: e
pricefallsandthequantity
decreases.
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.
Output, Price, and Profit in the Short Run
Profits and Losses in the Short Run
Maximumprofitisnotalwaysapositiveeconomicprofit.
To determine whether a firm is makin an economic rofit or
incurringaneconomicloss,wecomparethefirmsaveragetotal
costattheprofitmaximisingoutputwiththemarketprice.
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Output, Price, and Profit in the Short Run
ThreePossibleShortRunOutcomes
Inpart(a)priceequals averagetotalcost andthefirmmakes
.
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Output, Price, and Profit in the Short Run
Inpart ,priceexceeds averagetota costan t e irmma esapositiveeconomicprofit.
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Out ut, Price, and Profit in the Short Run
,
incursaneconomiclosseconomicprofitisnegative.
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Out ut, Price, and Profit in the Lon Run
Inshortrunequilibrium,afirmmaymakeaneconomicprofit,
breakeven,orincuraneconomicloss.
Onlyoneofthemisalongrunequilibriumbecausefirmscan
enterorexitthemarket.
ENTRYANDEXIT
Newfirmsenter anindustryinwhichexistingfirmsmakean
economicprofit.
Firmsexit anindustryinwhichtheyincuraneconomicloss.
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Out ut Price and Profit in the Lon Run
A CLOSER LOOK AT ENTRY
Whenthemarketpriceis$25aTshirt,firmsinthemarketare
.
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Out ut Price and Profit in the Lon Run
Newfirmshaveanincentivetoenterthemarket.
Whentheydo,themarketsupplyincreasesandthemarketprice
.
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Out ut, Price, and Profit in the Lon Run
Firmsenteraslongasfirmsaremakingeconomicprofits.
Inthelongrun,themarketsupplyincreases,themarketpricefalls
and firms make zero economic rofit .
2010 Pearson Education Australia
Out ut, Price, and Profit in the Lon Run
A CLOSER LOOK AT EXIT
Whenthemarketpriceis$17aTshirt,firmsinthemarketare
incurringeconomicloss.
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Out ut Price and Profit in the Lon Run
Firmshaveanincentivetoexitthemarket.
Whentheydo,themarketsupplydecreasesandthemarket
pricerises.
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Out ut Price and Profit in the Lon Run
Firmsexitaslon asfirmsareincurrin economiclosses.
Inthelongrun,themarketsupplydecreases,themarketpricerises
.
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Chan in Tastes & Advancin Technolo
APERMANENTCHANGEINDEMAND
Adecreaseindemandshiftsthemarketdemandcurveleftward.
Thepricefallsandthequantitydecreases.
Figure14.10illustratestheeffectsofapermanentdecreasein
demandwhenthemarketisinlongrunequilibrium.
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Chan in Tastes & Advancin Technolo
DecreaseinDemand
Adecreaseindemandshiftsthemarketdemandcurveleftward.Themarketpricefalls,andeachfirmdecreasesthe
uantit it roduces .
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Chan in Tastes & Advancin Technolo
Themarket riceisnowbeloweachfirmsminimumavera e
totalcost,sofirmsincureconomiclosses.
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Chan in Tastes & Advancin Technolo
,
decreasesthemarketsupplyandthepricestartstorise.
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Chan in Tastes & Advancin Technolo
Asthepricerises,thequantityproducedbyallfirmscontinuesto
decreaseasmorefirmsexit,buteachfirmremaininginthe
marketstartstoincreaseitsquantity.
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Chan in Tastes & Advancin Technolo
Anewlongrunequilibriumoccurswhenthepricehasrisento
equalminimumaveragetotalcost.Firmsmakezeroeconomic
profits,andfirmsnolongerexitthemarket.
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Chan in Tastes & Advancin Technolo
Themaindifferencebetweentheinitialandnewlongrunequilibriumisthenumberoffirmsinthemarket.
Fewer firms roduce the e uilibrium uantit . .
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Chan in Tastes & Advancin Technolo
Apermanentincreaseindemandhastheoppositeeffectstot ose ust escr e an s own n gure . .
Apermanentincreaseindemandshiftsthedemandcurverightward.
The
price
rises
and
the
quantity
increases.
Economicprofitinducesentry,whichincreasesshortrunsupplyandshiftstheshortrunmarketsupplycurverightward.
As the market su l increases the rice falls and the market quantitycontinuestoincrease.
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Chan in Tastes & Advancin Technolo
Withafallingprice,eachfirmdecreasesitsoutputasitmoves
alongitsmarginalcostcurve(supplycurve).
Anewlongrunequilibriumoccurswhenthepricehasfallento
.
Firmsmakezeroeconomicprofit,andfirmshavenoincentive
toenterthemarket.
Inthenewequilibrium,alargernumberoffirmsproducethe
equilibriumquantity.
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Chan in Tastes & Advancin Technolo
Thechangeinthelongrunequilibriumpricefollowinga
permanentchangeindemanddependsonexternaleconomies
andexternaldiseconomies.
Externaleconomies arefactorsbeyondthecontrolofan
individualfirmthatlowerthefirmscostsastheindustryoutput
increases.
thatraisethefirmscostsasindustryoutputincreases.
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Chan in Tastes & Advancin Technolo
Intheabsenceofexternaleconomiesorexternaldiseconomies,
afirmscostsremainconstantasthemarketoutputchanges.
Figure14.11illustratesthethreepossiblecasesandshowsthe
longrunmarketsupplycurve.
Thelongrunmarketsupplycurve showshowthequantity
suppliedinamarketvariesasthemarketpricevariesafterall
thepossibleadjustmentshavebeenmade,includingchangesin
eachfirmsplantandthenumberoffirmsinthemarket.
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Chan in Tastes and Advancin Technolo
Figure14.11(a)showsthatinthe
absence of external economies
orexternaldiseconomies,an
increaseindemanddoesnot
changethe
price
in
the
long
run.
The lon run market su l
curveLSA ishorizontal.
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Chan in Tastes and Advancin Technolo
Figure14.11(b)showsthatwhen
external diseconomies are
present,anincreaseindemand
bringsahigherpriceinthelong
run.
curveLSB isupwardsloping.
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Chan in Tastes and Advancin Technolo
Figure14.11(c)showsthatwhen
externaleconomiesarepresent,
anincreaseindemandbringsa
lowerpriceinthelongrun.
Thelongrunmarketsupplycurve
LSC isdownwardsloping.
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Chan in Tastes & Advancin Technolo
TECHNOLOGICALCHANGE
Newtechnologiesareconstantlydiscoveredthatlowercosts.
Anewtechnologyenablesfirmstoproduceataloweraverage
downward.
Firmsthatadoptthenewtechnologymakeaneconomicprofit.
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Chan in Tastes & Advancin Technolo
Newtechnologyfirmsenterandoldtechnologyfirmseither
exitoradoptthenewtechnology.
Industrysupplyincreasesandtheindustrysupplycurveshifts
ri htward.
Thepricefallsandthequantityincreases.
Eventually,anewlongrunequilibriumemergesinwhichall
firmsusethenewtechnology,thepriceequalsminimum
averagetotalcost,andeachfirmmakeszeroeconomicprofit.
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Competition and Efficiency
EFFICIENTUSEOFRESOURCES
Resourcesareusedefficientlywhennoonecanbemadebetter
offwithoutmakingsomeoneelseworseoff.
marginalsocialcost.
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Competition and Efficiency
CHOICES E UILIBRIUM AND EFFICIENCY, ,
Wecandescribeanefficientuseofresourcesintermsofthe
equilibrium.
o ces
Aconsumersdemandcurveshowshowthebestbudgeta ocationc angesast epriceo agoo c anges.
Soconsumersgetthemostvalueoutoftheirresourcesatallpointsalongtheirdemandcurves.
Withnoexternalbenefits,themarketdemandcurveisthe
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marginalsocialbenefitcurve.
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Competition and Efficiency
Acompetitivefirmssupplycurveshowshowtheprofit
maximisingquantitychangesasthepriceofagoodchanges.
Sofirmsgetthemostvalueoutoftheirresourcesatallpoints
alongtheirsupplycurves.
Withnoexternalcost,themarketsupplycurveisthemarginal
socialcostcurve.
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Competition and Efficiency
Incompetitiveequilibrium,resourcesareusedefficientlythe
quantity eman e equa st equantitysupp ie ,somargina
socialbenefitequalsmarginalsocialcost.
Thegainsfromtradeforconsumersismeasuredbyconsumersurplus.
Thegainsfromtradeforproducersismeasuredbyproducer
surplus.
Totalgainsfromtradeequaltotalsurplus.
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.
Competition and Efficiency
Figure14.12illustratesan
efficientallocationof
resources naper ec y
competitivemarket.
AtthemarketpriceP*,
eachfirmisproducingthe
quant tyq att e owest
possiblelongrunaverage
.
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Competition and Efficiency
Figure14.12(b)showsthe
market.
Alongthemarketdemand
curveD =MSB,consumers
areefficient.
curveS =MSC,producersare
efficient.
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Competition and Efficiency
ThequantityQ*andprice
P*arethecompetitive
equ r umva ues.
Socompetitiveequilibrium
isefficient.
,
consumersurplusand
producersurplus,is
maximised.
2010 Pearson Education Australia