Microeconomics Ch 9

a theory of market structure based on four assumptions: 1) there are many sellers and buyers, 2) sellers sell a homogeneous good, 3) buyers and sellers have all relevant information, 4) entry into or exit from the market is easy

a seller that does not have the ability to control the price of the product it sells; the seller takes the price determined in the market
a perfectly competitive firm
can increase or decrease output without significantly affecting the price of the product

a firm is restrained from being anything but a price taker if it finds itself one among many firms where its supply is small relative to the total market supply (assumption 1 in the theory of perfect competition), and it sells a homogeneous product (assumption 2) in an environment where buyers and sellers have all relevant information (assumption 3)

horizontal (flat, perfectly elastic) demand curve at the equilibrium price, in short, the firm takes the equilibrium price as given, hence the firm is a price taker and sells at all quantities of output at this price

the reasons are that the firm sells a homogeneous product, its supply is small relative to the total market supply, and all buyers are informed about where they can obtain the product at the lower price

the change in total revenue (TR) that results from selling one additional unit of output (Q)

for a perfectly competitive firm marginal revenue is the same as price

MR = (change in TR)/(change in Q)

the marginal revenue curve for the perfectly competitive firm is the same as its demand curve
a demand curve plots price against quantity, whereas a marginal revenue curve plots marginal revenue against quantity; if price equals marginal revenue, then the demand curve and marginal revenue curve are the same

demand curve = marginal revenue curve

profit is maximized by producing the quantity of output at which MR = MC

can be written as P = MC because for the perfectly competitive firm, P = MR
in perfect competition, profit is maximized when: P = MR = MC

producing a good-any good-until price equals marginal cost ensures that all units of the good are produced that are of greater value to buyers than the alternative goods that might have been produced

the firm maximizes profits by producing the quantity of output at which MR = MC

minimizes losses by choosing to shut down-that is, by not producing

minimizes its losses by continuing to product in the short run instead of shutting down

P > AVC = firm produces
P < AVC = firm shuts down
TR > TVC = firm produces
TR < TVC = firm shuts down

the portion of the firm's marginal cost curve that lies above the average variable cost curve

the horizontal addition of all existing firm's short run supply curves
this market curve is used along with the market demand curves to determine equilibrium price and quantity
because of the law of diminishing marginal returns, MC curves are upward sloping, and because MC curves are upward sloping, so are market supply curves

the condition where P = MC = SRATC = LRATC
economic profit is zero, firms are producing the quantity of output at which price is equal to marginal cost, and no firm has an incentive to change its plant size

1) economic profit is zero: price is equal to short run average total cost
2) firms are producing the quantity of output at which price is equal to marginal cost
3) no firm has an incentive to change its plant size to produce its current output; that is, at the quantity of output at which P = MC, the following condition holds: SRATC = LRATC

1) enter or exit the industry
2) produce more or less output
3) change plant sizes

1) we start at long run competitive equilibrium, where P = MC = SRATC = LRATC
2) then market demand rises for the product produced by the firms in the industry, and the equilibrium price rises
3) as a consequence, the demand curve faced by an individual firm (which is its marginal revenue curve) shifts upward
4) next, existing firms in the industry increase the quantity of output because marginal revenue now intersects marginal cost at a higher quantity of output
5) in the long run, new firms begin to enter the industry because price is currently above average total cost, and there are positive economic profits
6) as new firms enter the industry, the market (industry) supply curve shifts rightward
7-8) as a consequence, equilibrium price falls until long run competitive equilibrium is reestablished-that is, until once again economic profit is zero

price increased in the short run (owing to the increase in demand) and then decreased in the long run (owing to the increase in supply), profits increased (owing to the increase in demand and consequent increase in price) and then decreased (owing to the increase in supply and consequent decrease in price)

graphic representation of the quantities of output that the industry is prepared to supply at different prices after the entry and exit of firms are completed

an industry in which average total costs do not change as (industry) output increases or decreases when firms enter or exit the industry, respectively
characterized by a horizontal long run supply curve (because the cost of production has stayed constant so then then the price stays constant)

an industry in which average total costs increase as output increases and decrease as output decreases when firms enter and exit the industry respectively
characterized by an upward sloping long run supply curve
supply increases less than demand, because the demand increase causes in increase in the cost of production
in reverse, you will have a lower price than what you started from

an industry in which average total costs decrease as output decreases when firms enter and exit the industry, respectively
characterized by a downward sloping long run supply curve
supply increases more than demand, because costs of producing have gotten efficient because of the demand increase, which forces a huge increase in supply
in reverse you will have a higher price than what you started from

advertising has all cost and not benefits, however, a perfectly competitive industry might advertise

The analysis outlined for an increase in demand can be reversed to explain industry adjustment to a decrease in demand. If demand falls, equilibrium price will fall, shifting the individual firm's demand curve down. Existing firms will decrease output, since P = MC is now at a lower level of output (since P has decreased). As a result, existing firms will suffer losses in the short run. Over time, firms will exit the industry until losses "dry up." This will, in turn, shift the industry supply curve leftward, raising equilibrium price. Exit will continue until long-run competitive equilibrium (specifically, zero economic profit) is re-established.