Transcript Perfect Competition - McGraw Hill Higher Education

Chapter 6
Competition
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Market Structure
• The number and relative size of firms vary
across industries.
• Most real-world firms fall somewhere
along a spectrum that stretches from one
extreme (powerless) to another
(powerful).
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Market Structure
Five common types of market structure:
• Perfect competition.
• Monopolistic competition.
• Oligopoly.
• Duopoly.
• Monopoly.
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Figure 6.1
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Competitive Firm
• A perfectly competitive firm has no market
power: It is not able to alter the market
price of the good it produces.
– It is a price taker.
– It competes with many other firms selling
homogenous products.
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Monopoly
• A monopoly firm is one that produces the
entire market supply of a particular good
or service. It has complete market power;
it can alter the market price of a good or
service.
– It is a price setter, not a price taker.
– It has no direct competitors.
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Imperfect Competition
• Other forms of imperfect competition lie
between monopoly and perfect
competition, with decreasing market
power.
– Duopoly: only two firms supply a product.
– Oligopoly: a few large firms supply all or most of a
particular product.
– Monopolistic competition: many firms supply
essentially the same product but each enjoys
significant brand loyalty.
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Perfect Competition
• Perfectly competitive firms have no brand
image, no real market recognition.
• A perfectly competitive firm is one whose
output is so small in relation to market
volume that its output decisions have no
perceptible impact on price.
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Price Takers
• A perfectly competitive firm is a price
taker.
• An individual firm’s output decisions do
not affect the market price.
• An individual firm must take the market
price and do the best it can within these
constraints.
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Market Demand
versus Firm Demand
• There is a big difference between the
market demand curve and the demand
curve confronting a particular firm.
– The market demand curve for a product is
always downward-sloping.
– The demand curve facing a perfectly
competitive firm is horizontal.
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Figure 6.2
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Output and Revenues
• Total revenue is the price of a product
multiplied by the quantity sold in a given
time period:
Total revenue = Price x Quantity
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Revenues
versus Profits
• Profit is the difference between total
revenue and total cost.
– Maximizing output or revenue is not the way
to maximize profits.
– Total profits depend on how both revenue
and cost increase as output expands.
• A business is profitable only within a
certain range of output.
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Profit-Maximizing
Rate of Output
• Never produce anything that costs more
than it brings in – it boils down to
comparing price and marginal cost.
• A competitive firm wants to expand the
rate of production whenever price exceeds
marginal cost.
• Short-run profits are maximized at the rate
of output where price equals marginal
cost.
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Short-Run Decision Rules
for a Competitive Firm
• Price > MC
Increase output rate
• Price = MC
Maintain output rate
(Profits maximized)
• Price < MC
Decrease output rate
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Total Profit
• Profit per unit equals price minus average
total cost:
– Profit/unit = p – ATC
• Total profit equals profit per unit times
quantity:
– Profit = (p – ATC) x q
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Total Profit
• What counts is total profits, not profit per
unit.
• Total profits are maximized only where
p = MC.
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Figure 6.6
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Entry
• Additional firms will enter the industry when
profits are plentiful.
• Economic profits attract firms.
– More firms enter the industry.
– The market supply curve shifts to the right.
– The price decreases.
• Industry output increases and price falls when
firms enter an industry.
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Figure 6.8
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Tendency toward
Zero Economic Profits
• New firms continue to enter a competitive
industry so long as profits exist.
• Once price falls to the level of minimum
average cost, all economic profits
disappear.
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Exit
• Firms exit the industry when:
– Profit opportunities look better elsewhere.
– If price falls below average cost (profits turn
into losses).
• As firms exit the industry, the market
supply curve shifts to the left.
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Equilibrium
• The existence of profits in a competitive
industry induces entry, shifting supply to
the right, lowering price, and reducing
profits.
• The existence of losses in a competitive
industry induces exits, shifting supply to
the left, increasing price, and reducing
losses.
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Long-Run Equilibrium
• In long-run competitive market
equilibrium:
– Price equals minimum average total cost.
– Economic profit (or loss) is eliminated.
• As long as it is easy for existing producers
to expand production or for new firms to
enter an industry, economic profits will not
last long.
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Figure 6.9
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Characteristics of a
Competitive Market
• Many small firms.
• Perceived horizontal
demand.
• Identical products.
• Low entry barriers.
• Set output where MC
= p.
• Zero economic profit
in the long run.
• Perfect information.
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The Relentless
Profit Squeeze
• The unrelenting squeeze on prices and
profits is a fundamental characteristic of
the competitive process.
• The market mechanism works best in
competitive markets.
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