Econ L6
Econ L6
Econ L6
Competition
Week 6: Lecture
Lecture Outcomes
By the end of this topic students would be able to:
1. Explain what is meant by market structure
2. Explain why a firm in perfect competition is a price taker
3. Derive the supply curve of a firm in perfect competition
4. Explain how price and output are determined in a competitive
industry in the short run and long run
5. Predict the effects of a change in demand and of technological
advances
6. Explain how firms in perfect competition maximize profit
7. Explain the output decisions for firms in perfect competition
Market Structure
Market structure describes the
important features of a market.
• Perfect Competition
• Monopoly
• Oligopoly
• Monopolistic Competition
Aspects of market
structure
• Number of suppliers
• Many or few
• Product’s degree of uniformity
• Do firms in the market supply identical
products or are there differences across firms?
• The ease of entry into the market
• Can new firms enter easily or are they blocked
by natural or artificial barriers?
• Forms of competition among firms
• Do firms compete only through prices or are
advertising and product differences common
as well?
Perfect Competition
Characteristics of perfect competition
• Many buyers and sellers 🡺 so many that each buys and sells only a
tiny fraction of the total amount exchanged in the market
• Buyers and sellers are fully informed about the price and availability of
all resources and products
• Firms and resources are freely mobile 🡺 over time they can easily
enter or leave the industry
Price is determined by market
supply and demand 🡺 the
perfectly competitive firm is a
price taker 🡺 it must “take” or
accept, the market price
Perfect
Competition
Once the market establishes the
price, each firm is free to produce
whatever quantity maximizes
profit
Perfect
Competition:
Price
Determination
A firm’s goal is to maximize its profit; which is total revenue minus total
cost.
The Revenue of a • Total revenue (TR): The value of a
Competitive Firm firm’s sales.
• A key difference:
• If shut down in SR, must still pay FC.
• If exit in LR, zero costs.
A Firm’s Short-run Decision to Shut
Down
• Long-run equilibrium:
The process of entry or exit is complete—remaining firms earn zero economic profit
(normal profit).
• Zero economic profit occurs when P = ATC.
• Since firms produce where P = MR = MC, the zero-profit condition is P = MC = ATC.
• Recall that MC intersects ATC at minimum ATC.
• Hence, in the long run, P = minimum ATC
The Long Run Market Supply Curve
Why the Long Run Supply Curve Might
Slope Upward
• The long run market supply curve is horizontal if
1) all firms have identical costs, and
2) costs do not change as other firms enter or exit the market.
Profit-maximization: • MC = MR
Perfect competition: • P = MR
In the competitive equilibrium: • P = MC
The competitive equilibrium
is efficient and maximizes
total surplus.
Perfect Competition and
Efficiency
How does perfect competition stack up as an
efficient allocator of resources?