Transcript Economics, by R. Glenn Hubbard and Anthony Patrick O`Brien

chapter
eleven
Firms in Perfectly Competitive Markets
Prepared by: Fernando & Yvonn Quijano
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
CHAPTER 11: Firms in Perfectly
Competitive Markets
Firms in Perfectly Competitive Markets
11 – 1
The Four Market Structures
MARKET STRUCTURE
CHARACTERISTIC
PERFECT
COMPETITION
MONOPOLISTIC
COMPETITION
OLIGOPOLY
MONOPOLY
Number of firms
Many
Many
Few
One
Type of product
Identical
Differentiated
Unique
Ease of entry
High
High
Identical or
differentiated
Low
Examples of
industries
• Wheat
• Apples
• Selling DVDs
• Restaurants
• Manufacturing
computers
• Manufacturing
automobiles
• First-class
mail delivery
• Tap water
Entry blocked
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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1 LEARNING OBJECTIVE
CHAPTER 11: Firms in Perfectly
Competitive Markets
Perfectly Competitive Markets
Perfectly competitive market
A market that meets the
conditions of (1) many buyers
and sellers, (2) all firms selling
identical products, (3) no
barriers to new firms entering
the market.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Perfectly Competitive Markets
CHAPTER 11: Firms in Perfectly
Competitive Markets
A Perfectly Competitive Firm Cannot Affect the Market Price
Price taker A buyer or seller that is
unable to affect the market price.
11 - 1
A Perfectly Competitive Firm
Faces a Horizontal Demand
Curve
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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2 LEARNING OBJECTIVE
How a Firm Maximizes Profit in a
Perfectly Competitive Market
CHAPTER 11: Firms in Perfectly
Competitive Markets
Profit Total revenue minus total cost.
Profit = TR - TC
11 - 2
The Market Demand for Wheat
versus the Demand or One
Farmer’s Wheat
Don’t Confuse the Demand Curve for Farmer Douglas’s Wheat with the Market Demand Curve for Wheat
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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How a Firm Maximizes Profit in a
Perfectly Competitive Market
CHAPTER 11: Firms in Perfectly
Competitive Markets
Revenue for a Firm in a Perfectly Competitive Market
Average revenue (AR) Total revenue divided by the
number of units sold.
AR 
TR
Q
so, AR 
TR P  Q

P
Q
Q
Marginal revenue (MR) Change in total revenue from
selling one more unit.
Marginal Revenue 
Change in total revenue
TR
, or MR 
Change in quantity
Q
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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How a Firm Maximizes Profit in a
Perfectly Competitive Market
CHAPTER 11: Firms in Perfectly
Competitive Markets
Revenue for a Firm in a Perfectly Competitive Market
11 – 2
Farmer Douglas’s Revenue
from Wheat Farming
NUMBER OF
BUSHELS
(Q)
MARKET PRICE
(PER BUSHEL)
(P)
TOTAL
REVENUE
(TR)
AVERAGE
REVENUE
(AR)
MARGINAL
REVENUE
(MR)
0
1
2
3
4
5
6
7
8
9
10
$4
4
4
4
4
4
4
4
4
4
4
$0
4
8
12
16
20
24
28
32
36
40
$4
4
4
4
4
4
4
4
4
4
$4
4
4
4
4
4
4
4
4
4
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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How a Firm Maximizes Profit in a
Perfectly Competitive Market
CHAPTER 11: Firms in Perfectly
Competitive Markets
Revenue for a Firm in a Perfectly Competitive Market
11 –3
Farmer Douglas’s Profits from
Wheat Farming
QUANTITY
(BUSHELS)
(Q)
TOTAL
REVENUE
(TR)
TOTAL
COSTS
(TC)
PROFIT
(TR-TC)
0
1
2
3
4
5
6
7
8
9
10
$0.00
4.00
8.00
12.00
16.00
20.00
24.00
28.00
32.00
36.00
40.00
$1.00
4.00
6.00
7.50
9.50
12.00
15.00
19.50
25.50
32.50
40.50
-$1.00
0.00
2.00
4.50
6.50
8.00
9.00
8.50
6.50
3.50
-0.50
MARGINAL
REVENUE
(MR)
MARGINAL
COST
(MC)
$4.00
4.00
4.00
4.00
4.00
4.00
4.00
4.00
4.00
4.00
$3.00
2.00
1.50
2.00
2.50
3.00
4.50
6.00
7.00
8.00
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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How a Firm Maximizes Profit in a
Perfectly Competitive Market
CHAPTER 11: Firms in Perfectly
Competitive Markets
Revenue for a Firm in a Perfectly Competitive Market
11 - 3
The Profit-Maximizing Level
of Output
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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CHAPTER 11: Firms in Perfectly
Competitive Markets
3 LEARNING OBJECTIVE
Illustrating Profit or Loss
on the Cost Curve Graph
Profit = (P x Q)  TC
( P  Q ) TC
Profit


Q
Q
Q
Or
Profit
 P  ATC,
Q
Profit = (P  ATC)Q
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Illustrating Profit or Loss
on the Cost Curve Graph
CHAPTER 11: Firms in Perfectly
Competitive Markets
Showing a Profit on the Graph
11 - 4
The Area of Maximum Profit
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Illustrating Profit or Loss
on the Cost Curve Graph
CHAPTER 11: Firms in Perfectly
Competitive Markets
Illustrating When a Firm Is Breaking Even or Operating at a Loss
 P > ATC, which means the firm makes a profit
 P = ATC, which means the firm breaks even (its total cost equals it total revenue)
 P < ATC, which means the firm experiences losses
11 - 5
A Firm Breaking Even and Experiencing Losses
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CHAPTER 11: Firms in Perfectly
Competitive Markets
4 LEARNING OBJECTIVE
Deciding Whether to Produce or
to Shut Down in the Short Run
In the short run a firm suffering losses has
two choices:
 Continue to produce
 Stop production by shutting down
temporarily
Sunk cost A cost that has already been
paid and that cannot be recovered.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Deciding Whether to Produce
or to Shut Down in the Short Run
The Supply Curve of the Firm in the Short Run
CHAPTER 11: Firms in Perfectly
Competitive Markets
11 - 6
The Firm’s Short-Run Supply Curve
Shutdown point The minimum point on a firm’s average variable cost
curve; if the price falls below this point, the firm shuts down production in
the short run.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
The Entry and Exit of Firms in the Long Run
CHAPTER 11: Firms in Perfectly
Competitive Markets
Economic Profit and the Entry or Exit Decision
Economic profit A firm’s revenues
minus all its costs, implicit and explicit.
Economic loss The situation in
which a firm’s total revenue is less than
its total cost, including all implicit
costs.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
The Entry and Exit of Firms in the Long Run
CHAPTER 11: Firms in Perfectly
Competitive Markets
Economic Profit and the Entry or Exit Decision
11 – 5
Farmer Appleseed’s Costs per
Year
EXPLICIT COSTS
Water
Wages
Organic fertilizer
Electricity
Payment on bank loan
$25,000
$35,000
$14,000
$5,000
$6,000
IMPLICIT COSTS
Foregone salary
Opportunity cost of the $100,000 she has invested in her farm
Total Cost
$30,000
$10,000
$125,000
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
The Entry and Exit of Firms in the Long Run
Economic Profit and the Entry or Exit Decision
CHAPTER 11: Firms in Perfectly
Competitive Markets
ECONOMIC PROFIT LEADS TO ENTRY OF NEW FIRMS
11 - 8
The Effect of Entry on Economic Profits
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
The Entry and Exit of Firms in the Long Run
Economic Profit and the Entry or Exit Decision
CHAPTER 11: Firms in Perfectly
Competitive Markets
ECONOMIC LOSSES LEAD TO EXIT OF FIRMS
11 - 9
The Effect of Exit on Economic Losses
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
The Entry and Exit of Firms in the Long Run
CHAPTER 11: Firms in Perfectly
Competitive Markets
Long-Run Equilibrium in a Perfectly Competitive Market
Long-run competitive equilibrium
The situation in which the entry and
exit of firms have resulted in the typical
firm just breaking even.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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“If Everyone Can Do It, You Can’t Make Money At It” –
CHAPTER 11: Firms in Perfectly
Competitive Markets
The Entry and Exit of Firms in the Long Run
The Long-Run Supply Curve in a Perfectly Competitive
Market
Long-run supply curve A curve
showing the relationship in the long
run between market price and the
quantity supplied.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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6 LEARNING OBJECTIVE
CHAPTER 11: Firms in Perfectly
Competitive Markets
Perfect Competition and Efficiency
Productive Efficiency
Productive efficiency The situation
in which a good or service is produced
at the lowest possible cost.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Perfect Competition and Efficiency
CHAPTER 11: Firms in Perfectly
Competitive Markets
Allocative Efficiency
Firms will supply all those goods that provide
consumers with a marginal benefit at least as great as
the marginal cost of producing them:
 The price of a good represents the marginal benefit
consumers receive from consuming the last unit of the
good sold.
 Perfectly competitive firms produce up to the point where
the price of the good equals the marginal cost of
producing the last unit.
 Therefore, firms produce up to the point where the last
unit provides a marginal benefit to consumers equal to
the marginal cost of producing it.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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Perfect Competition and Efficiency
CHAPTER 11: Firms in Perfectly
Competitive Markets
Allocative Efficiency
Allocative efficiency A state of the economy
in which production reflects consumer preferences;
in particular, every good or service is produced up
to the point where the last unit provides a marginal
benefit to consumers equal to the marginal cost of
producing it.
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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CHAPTER 11: Firms in Perfectly
Competitive Markets
Allocative efficiency
Average revenue (AR)
Economic loss
Economic profit
Long-run supply curve
Marginal revenue
Perfectly competitive
market
Price taker
Productive efficiency
Profit
Shutdown point
Sunk cost
© 2006 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien—1st ed.
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