Transcript Drawing a Competition Diagram

Drawing a Competition Diagram
Diagram should show the price and
quantity where the firm is maximising
profit in different types of markets.
These markets range from Perfect
Competition to Monopoly. It should
also be possible to further analyse the
position of the firm using type of profit
earned and efficiency levels.
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How to draw competition
diagrams?
The firm needs information on costs and
revenue to determine the level of
output[quantity] and price [average revenue]
where maximum profit is achieved.
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Averages and Marginals
• Marginals refer to the last or extra unit
produced or sold.
• Averages refer to each unit produced or sold.
• NB Special relationship between an average
and a marginal.
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Costs
• Average Cost. Total Cost
Quantity. This is
the cost of each unit. U-shaped curve.
• Marginal Cost. The additional cost of the last
unit produced. Change in total cost. NB this
curve has a special relationship with average
cost. Remember the Average and the
Marginal!!!
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Revenue
• Average Revenue.
This total revenue
Quantity.
Better known as Price!!!!
• Marginal Revenue is the change in Total
Revenue due to the last unit produced.
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Relationship between an average and
a marginal
• Example: Average Cost [AC] and Marginal Cost
[MC]
• If AC is falling MC must be less than AC
• If AC is rising MC must be greater than AC
• If AC is at its lowest point MC must equal AC
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Remember
its
relationship
with AC!!!!
€
The Cost Graphs
Marginal
Cost
Average
Cost
Quantity
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Always U
Shaped
The Revenue Graphs
€
If AR is constant
[Perfect
Competition] then
MR = AR
Average &
Marginal
Revenue
Quantity
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Perfect Competition
• This is the most competitive market structure.
• Consumers pay the lowest price [Average
Revenue AR(Price) = Average Cost AC(Cost per
Unit) and AC is at the most efficient point.
• The business operates at the most efficient
output (Lowest point of AC).
• The firm earns normal profit in the long run
(AR = AC).
• Now let us draw a diagram to show the above.
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Price Taker
Firm accepts the price set by the market
€
Market /
Industry
€
Firm
Supply
€10
€10
AR / MR
Demand
5m
units
QTY
QTY
20
units
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40
units
Short Run Equi Diagram & Explanation
€
MC
SNP
€10
€7
25
• Produce at 25 units & sell at
€10 because this is where
the firm is maximising profit
• MC=MR
AC
• MC rising faster than MR
• AR greater than AC [SNP]
AR / MR
• Inefficient AC not at
minimum
QTY
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Moving to the Long Run Equilibrium
Knowledge of profits, SNP attract new firms.
Freedom of entry allows them to join the market causing an
outward shift in the industry supply curve
Supply
P
Supply 1
€10
€4
Demand
5M
7M
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Qty
Long Run Equilibrium
The market price has fallen and the firm as a
price taker must also reduce it’s price
Price
MC
€4
AR / MR
20
AC
•Produce at 20 units & sell
at €4 because this is where
the firm is maximising
profit
•MC=MR
•MC rising faster than MR
•AR = AC [Normal Profit]
•Efficient AC at minimum
•AR =AC = MR = MC
Qty
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