Chapter 7 - Pure competition. Explanations and characteristics of the four models are outlined at the beginning of this chapter, then the characteristics of a purely competitive industry are detailed. There is an introduction to the concept of the perfectly elastic demand curve facing an individual firm in a purely competitive industry. Next, the total, average, and marginal revenue schedules are presented in numeric and graphic form.
Chapter7 Pure Competition McGrawưHill/Irwin Copyrightâ2014byTheMcGrawưHillCompanies,Inc.Allrightsreserved 1ư1 FourMarketModels Pure competition • Pure monopoly • Monopolistic competition • Oligopoly 72 Pure Competition: Characteristics • • • • • Very large numbers of sellers Standardized product “Price takers” Easy entry and exit Perfectly elastic demand • Firm produces as much or little as they want at the price • Demand graphs as horizontal line 73 Average, Total, and Marginal Revenue Firm’s Demand Schedule (Average Revenue) P QD Firm’s Revenue Data TR TR MR $131 $0 ] $131 131 131 ] 131 131 262 ] 131 131 393 ] 131 131 524 ] 131 131 655 ] 131 131 786 ] 131 131 917 ] 131 131 1048 ] 131 131 1179 ] 131 10 131 1310 D = MR = AR 74 Average, Total, and Marginal Revenue • Average revenue • Revenue per unit • AR = TR/Q = P • Total revenue TR = P ì Q Marginal revenue • Extra revenue from more unit • MR = ΔTR/ΔQ 75 Profit Maximization: TRTC Approach • Three questions: • Should the firm produce? • If so, what amount? • What economic profit (loss) will be realized? 76 Profit Maximization: MRMC The Profit-Maximizing Output for a Purely Competitive Firm: Marginal Approach Revenue– Marginal Cost Approach (Price = $131) (1) Total Product (Output) (2) Average Fixed Cost (AFC) (3) Average Variable Cost (AVC) (4) Average Total Cost (ATC) (5) Marginal Cost (MC) (5) Price = Marginal Revenue (MR) (6) Total Economic Profit (+) or Loss (-) $-100 $100.00 $90.00 $190 $90 $131 -59 50.00 85.00 135 80 131 -8 33.33 80.00 113.33 70 131 +53 25.00 75.00 100.00 60 131 +124 20.00 74.00 94.00 70 131 +185 16.67 75.00 91.67 80 131 +236 14.29 77.14 91.43 90 131 +277 12.50 81.25 93.75 110 131 +298 11.11 86.67 97.78 130 131 +299 10 10.00 93.00 103.00 150 Copyright © 2013 by The McGrawHill Companies, Inc. All rights reserved 131 +280 McGrawHill/Irwin LO3 77 Profit Maximization: MRMC Approach Cost and Revenue $200 MR = MC 150 P=$131 MC MR = P ATC Economic Profit 100 AVC A=$97.78 50 10 Output 78 LossMinimizing Case • Loss minimization • Still produce because P > AVC • Losses at a minimum where MR = MC 79 Profit Minimization: MRMC The Profit-Minimizing Output for a Purely Competitive Firm: Marginal Approach Revenue– Marginal Cost Approach (Price = $81) (1) Total Product (Output) (2) Average Fixed Cost (AFC) (3) Average Variable Cost (AVC) (4) Average Total Cost (ATC) (5) Marginal Cost (MC) (5) Price = Marginal Revenue (MR) LO3 (6) Total Economic Profit (+) or Loss (-) $-100 $100.00 $90.00 $190 $90 $81 -109 50.00 85.00 135 80 81 -108 33.33 80.00 113.33 70 81 -97 25.00 75.00 100.00 60 81 -76 20.00 74.00 94.00 70 81 -65 16.67 75.00 91.67 80 81 -64 14.29 77.14 91.43 90 81 -73 12.50 81.25 93.75 110 81 -102 11.11 86.67 97.78 130 81 -151 10 10.00 93.00 103.00 150 81 -220 710 Shutdown Case MC ATC V = $74 AVC P=$71 MR = P Short-Run Shutdown Point P < Minimum AVC $71 < $74 713 Marginal Cost and ShortRun Supply The Supply Schedule of a Competitive Firm Confronted with Cost Data Price $151 Quantity Supplied 10 Maximum Profit (+) Minimum Loss (-) + $480 131 +299 111 +138 91 -3 81 -64 71 -100 61 -100 714 Marginal Cost and ShortRun Supply S e P5 d P4 P3 P2 P1 MC ATC c AVC b a MR5 MR4 MR3 MR2 MR1 Shut-Down Point (If P is Below) Q2 Q3 Q4 Q5 715 3 Production Questions Output Determination in Pure Competition in the Short Run LO4 Question Answer Should this firm produce? Yes, if price is equal to, or greater than, minimum average variable cost This means that the firm is profitable or that its losses are less than its fixed cost What quantity should this firm produce? Produce where MR (=P) = MC; there, profit is maximized (TR exceeds TC by a maximum amount) or loss is minimized Will production result in economic profit? Yes if price exceeds average total cost (TR will exceed TC) No if average total cost exceeds price (TC will exceed TR) 716 Firm and Industry: Equilibrium Firm and Market Supply and the Market Demand LO4 (1) Quantity Supplied, Single Firm 10 (2) Total Quantity Supplied, 1,000 Firms 10,000 (3) Product Price $151 (4) Total Quantity Demanded 4,000 9,000 131 6,000 8,000 111 8,000 7,000 91 9,000 6,000 81 11,000 0 71 13,000 0 61 16,000 717 Firm and Industry: Equilibrium S = ∑ MCs s = MC Economic profit ATC d $111 $111 AVC D (a) Single Firm 8000 (a) Industry 718 Profit Maximization in the Long Run • Easy entry and exit • The only long-run adjustment we • • consider Identical costs • All firms in the industry have identical costs Constant-cost industry • Entry and exit not affect resource prices 719 LongRun Equilibrium • Entry eliminates profits • Firms enter • Supply increases • Price falls • Exit eliminates losses • Firms exit • Supply decreases • Price rises 720 Entry Eliminates Economic Profits S1 MC $60 ATC 50 40 $60 S2 50 MR 40 D2 D1 721 Exit Eliminates Losses S3 MC $60 ATC S1 50 50 40 $60 MR 40 D1 D3 722 LongRun Supply • Constant-cost industry • Entry/exit does not affect LR ATC • Constant resource price • Special case • Increasing-cost industry • Most industries • LR ATC increases with expansion • Specialized resources • Decreasing-cost industry 723 LR Supply: ConstantCost Industry $50 Z3 Z1 D1 D3 Q3 90,000 LO6 Z2 Q1 100,000 S D2 Q2 110,000 724 LR Supply: IncreasingCost Industry S P2 $55 Y2 P1 $50 Y1 P3 $40 Y3 D2 D1 D3 Q3 90,000 Q1 100,000 Q2 110,000 725 Pure Competition and Efficiency • In the long run, efficiency is achieved • Productive efficiency • Producing where P = ATC • Allocative efficiency • Producing where P = MC 726 Dynamic Adjustments • Purely competitive markets will • automatically adjust to • Changes in consumer tastes • Resource supplies • Technology Recall the “invisible hand” 727 ... Economic Profit (+) or Loss (-) $-1 00 $100.00 $90.00 $190 $90 $71 -1 19 50.00 85.00 135 80 71 -1 28 33.33 80.00 113.33 70 71 -1 27 25.00 75 .00 100.00 60 71 -1 16 20.00 74 .00 94.00 70 71 -1 15 16. 67 75.00... 75 .00 91. 67 80 71 -1 24 14.29 77 .14 91.43 90 71 -1 43 12.50 81.25 93 .75 110 71 -1 82 11.11 86. 67 97. 78 130 71 -2 41 10 10.00 93.00 103.00 150 71 -3 20 7 12 Shutdown Case MC ATC V = $74 AVC P= $71 MR =... Profit (+) or Loss (-) $-1 00 $100.00 $90.00 $190 $90 $81 -1 09 50.00 85.00 135 80 81 -1 08 33.33 80.00 113.33 70 81 - 97 25.00 75 .00 100.00 60 81 -7 6 20.00 74 .00 94.00 70 81 -6 5 16. 67 75.00 91.67