Perfect Competition

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ESP Educational Class

Mrs.ET Sopheak

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Perfect Competion:

Perfectly Competitive Industry

Four things to remember when considering a perfectly competitive industry are

1. The profit-maximizing condition for perfectly competitive firms is MC = MR= P 

2. To determine profit or loss at the profit-maximizing level of output, subtract the average total cost at that level of output from the price and multiply the result by the output level.

3. Firms will shut down production if price falls below the minimum of their average variable costs.

4. A perfectly competitive firm is in long-run equilibrium only when it is earning zero economic profit, or when price equals the minimum of long-run average total costs.

Essential Keys: Finding Output, Price, and Profit

(Figure Below): To find a competitive firm’s price, level of output, and profit given a firm’s marginal cost curve and average total cost curve, use the following four steps: 

1. Determine the market price at which market supply and demand curves intersect. This is the price the competitive firm accepts for its products.

2. Draw the horizontal marginal revenue (MR) curve at the market price.

3. Determine the profit-maximizing level of output by finding the level of output where the MR and MC curves intersect.

 4. Determine profit by subtracting average total costs at the profit-maximizing level of output from the price and multiplying by the firm’s output.

If you are demonstrating profit graphically, find the point at which MC= MR.  Extend a line down to the ATC curve. Extend a line from this point to the vertical axis. To complete the box indicating profit, go up the vertical axis to the market price.

Summary of Perfect Competition

• The necessary conditions for perfect competition include: buyers and sellers are price takers, there are no barriers to entry, and firms’ products are identical.

• The profit-maximizing position of a competitive firm is where marginal revenue equals marginal cost.

• The supply curve of a competitive firm is its marginal cost curve. Only competitive firms have supply curves.

•  To find the profit-maximizing level of output for a perfect competitor, find that level of output where MC= MR.  Profit is priceless average total cost times output at the profit-maximizing level of output.

• In the short run, competitive firms can make a profit or loss. In the long run, they make zero profits.

• Profit equals total revenue less total cost. Graphically, profit is the vertical distance between the price of the good and the ATC curve at the maximizing level of output times that level of output.

•  The shutdown price for a perfectly competitive firm is a price below average variable cost.

• The short-run market supply curve is the horizontal summation of the marginal cost curves for all firms in the market. An increase in the number of firms in the market shifts the market supply curve to the right, while a decrease shifts it to the left.

• Perfectly competitive firms make zero profit in the long run because if profit were being made, new firms would enter and the market price would decline, eliminating the profit. If losses were being made, firms would exit and the market price would rise.

•  The long-run supply curve is a schedule of quantities supplied where firms are making zero profit.

•  The slope of the long-run supply curve depends on what happens to factor prices when output increases.

• Constant-cost industries have horizontal long-run supply curves. Increasing-cost industries have upward-sloping long-run supply curves, and decreasing-cost industries have downward-sloping long-run supply curves.

Thanks,

Mrs.ET Sopheak

Lecturer in Economics