Transcript Chapter 12 - Pegasus @ UCF

Perfect Competition
 Market structure in the output market.
– Number of firms
– Type of product
– Ease of entry/exit
– Market info and knowledge
 Price and output are strongly related to
market structure.
12-1
Perfect Competition
 Homogeneous or standardized product
 Enough firms so that each firm is small
relative to the market. Thus, no control
over price.
 No obstacles to entry and exit.
 Perfect info about product and market. Best
method of production & market price. Also
potential entrants know whether existing
firms earn economic profits.
12-2
Firm’s Demand and Perfect
Competition
 Since each firm is a price-taker, its demand
curve is horizontal at the market price. It
can also said to be perfectly elastic at the
market price.
P
P
D
P
S
P
D
Firm
Q
Market
Q
12-3
Firm’s Demand
 The firm’s demand curve in perfect
competition is also the
– MR curve – since each additional unit adds a
constant amount (Price) to Total revenue(TR)
– Average Revenue curve – since AR is TR/Q
12-4
Profit Maximization in the Short
Run
MC
$
MR=MC
Q*
D=MR=P
Q
Remember FC is irrelevant in the Short Run. Old MB=MC
Rule for Unconstrained Max from Chap. 4
12-5
Short Run Equilibrium for the
Perfectly Competitive Firm
 There are actually two basic cases to be
considered
1. Revenues (TR) covers variable costs(TVC).
In this case the firm produces where MR=MC
 If P>ATC, operate at economic profit
 If min AVC >P<ATC operate at a loss(but will minimize
loss)
2. Revenues(TR) is not able to cover variable
cost(TVC) at any level of output(Q). In this
case the firm should shut down (Q=0). This
occurs when P< min AVC.
12-6
Graphics for Previous Slide
 Refer to Figure 12.4, 12.5, and 12.6 in text
plus lecture drawings.
 Note Figure 12.6 covers all possibilities by
assuming 3 different market prices(P1, P2,
P3)
12-7
Short Run Supply in Perfect
Competition
 The short run supply curve for the firm is
that part of the MC curve above AVC.
(Figure 12.7)
$
MC
AVC
Q
12-8
Long Run Equilibrium in Perfect
Competition
 In the LR, firms can freely enter and exit the
industry in response to market incentives.
 Thus, if economic profits exist new firms will be
attracted into the industry. As the number of firms
increase, market Supply increases and market
price falls. As market price falls so goes each
firm’s demand curve (since price takers) and the
process continues til all economic profit is
eliminated.
12-9
Long Run Equilibrium in Perfect
Competition
 See graphics in lecture and Figures 12.8 and
12.9.
 LR equilibrium occurs when
P= LMC=LAC
12-10
Rent and Long Run Supply
 Economic rent is the payment to the owner
of a resource in excess of the resource’s
opportunity cost.
 Firm’s that employ such productive
resources earn only normal profits in the LR
because the excess is paid to the owner of
the resource.
 Shaq receives huge rents since his income is
far in excess of his opportunity costs.
12-11
Profit Maximizing Input Usage
 So far have focused on profit max in terms of the
output to produce.
 Need to also develop profit max in terms of input
usage.
 Again this is an application of unconstrained
maximizing theory in which the solution is MB =
MC. We just change names to fit the application.
– MB = increase in revenue generated by hiring an
additional unit of “labor” (will call MRP)
– MC = increase in cost due to hiring an additional unit of
“labor” (is the wage rate)
12-12
Marginal Revenue Product
 The marginal revenue product (MRP) is the
additional revenue earned when the firm
hires an additional unit of labor.
TR
MRP 
 MR  MP
I
I = units of the input
MR = marginal revenue
MP = marginal product
12-13
#14, page 472
MRP = MR(MP)
L
Q
MP
MC = w/MP
MRP PL =w MC
Profit
FC=50
1
5
5
10
10
2
-50
2
15
10
20
10
1
-40
3
30
15
30
10
0.67 -20
4
50
20
40
10
0.50 10
5
65
15
30
10
0.67 30
6
77
12
24
10
0.83 44
7
86
9
18
10
1.11 52
8
94
8
16
10
1.25 58
9
98
4
8
10
2.50 56
12-14