Transcript EC1110 -Perfect Competition

SAYRE | MORRIS
Seventh Edition
CHAPTER 8
Perfect Competition
© 2012 McGraw-Hill Ryerson Limited
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CHAPTER 8
Perfect Competition
Learning Objectives:
LO1: Distinguish among a firm, an industry, and a market
LO2: Explain what is meant by perfect competition and the
market system
LO3: Use two approaches to explain how a firm might
maximize its profits
LO4: explain what is meant by break-even price and
shutdown price
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CHAPTER 8
Perfect Competition
Learning Objectives:
LO5: Explain how a firm’s supply curve is derived
LO6: Explain the effect of a change in market demand or
market supply on both the industry and the firm
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LO1
Industry
• a group of producers
Market
• the interaction of both producers and consumers
Perfect Competition
• a market in which all buyers and sellers are price
takers
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LO1
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LO1
Self-Test
In what type of market will you find the following types of
firms/products?
a)
Hairdressing salons.
b)
Industrial chemicals in Canada.
c)
Commercial breweries in Canada.
d)
World market for coffee.
e)
Rogers Cable in Ontario.
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LO1
Self-Test
In what type of market will you find the following types of
firms/products?
a)
Hairdressing salons.
monopolistic competition
b)
Industrial chemicals in Canada.
(undifferentiated) oligopoly
c)
Commercial breweries in Canada.
(differentiated) oligopoly
d)
World market for coffee.
perfect competition
e)
Rogers Cable in Ontario.
monopoly
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Conditions for Perfect
Competition
LO2
1. many small buyers and sellers all of whom are
price takers
2. no preferences shown
3. easy entry and exit by both buyers and sellers
4. the same market information available to all
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LO2
Conditions for a Market System
1.
2.
3.
4.
extensive specialization and trade,
perfect competition,
private ownership of productive resources, and
a legal and social foundation
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LO2
Self-Test
In what way(s) is the stock market a good example of perfect
competition? In what way(s) is it a bad example?
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LO2
Self-Test
In what way(s) is the stock market a good example of perfect
competition? In what way(s) is it a bad example?
The stock market is a good example of perfect competition
because there are many (millions) of buyers and sellers, the
products sold are homogeneous and there is a great deal of
information available about products; on the other hand, some
of the buyers and sellers are big enough to affect prices, there
is not equal access to information (insider trading), and there
is not free entry into the market (you need to hire a broker to
buy shares).
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The Competitive
Industry and Firm
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LO3
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LO3
Total Revenue
• total quantity sold (Q) times price (P)
Average Revenue
• the amount of revenue received per unit sold
Total Revenue (TR) Q  P
Average Revenue (AR) 
or
P
Output (Q)
Q
Marginal Revenue
• the extra revenue derived from one more unit
Marginal Revenue 
Total Revenue (TR) Q  P
or
P
Output (Q)
Q
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LO3
Given a perfectly elastic demand curve, Price  AR = MR
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LO3
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LO3
Profit and Output
Total Profit
• the difference between total revenue and total costs:
T  TR  TC
• A firm will maximize profit when
(Total Revenue  Total Cost) is greatest.
Break-even Output
• the level of output at which the sales revenue of the
firm just covers fixed and variable costs, including
normal profit
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LO3
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LO3
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LO3
Marginal Approach to Profit
If MR > MC →
If MR < MC →
produce more
produce less
To maximize total profit, the firm should increase
production to the point at which:
MR = MC
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LO3
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LO3
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LO3
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LO3
Self-Test
Given the data for Marshall’s Meat Ltd., calculate total profits at
each output. What are break-even and profit-maximizing outputs?
Q
0
1
2
3
4
5
6
7
8
P
50
50
50
50
50
50
50
50
50
TR
TC
40
135
180
220
230
250
280
350
450
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LO3
Self-Test
Given the data for Marshall’s Meat Ltd., calculate total profits at
each output. What are break-even and profit-maximizing outputs?
Q
0
1
2
3
4
5
6
7
8
P
50
50
50
50
50
50
50
50
50
TR
0
50
100
150
200
250
300
350
400
TC
40
135
180
220
230
250
280
350
450
Tп
-40
-85
-80
-70
-30
0
20
0
-50
Break-even outputs: 5 and 7; Profit maximizing output: 6
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LO3
Self-Test
The following data is for Garden Pots Ltd. If the price of a pot is $20, what are
the break-even levels of output and what is the profit-maximizing output?
Output (Q)
0
1
2
3
4
5
6
7
8
Average Cost (AC)
/
$45
25
20
18.75
19
20
22
25
Marginal Cost (MC)
/
$15
5
10
15
20
25
34
46
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LO3
Self-Test
The following data is for Garden Pots Ltd. If the price of a pot is $20, what are
the break-even levels of output and what is the profit-maximizing output?
Output (Q)
0
1
2
3
4
5
6
7
8
Average Cost (AC)
/
$45
25
20
18.75
19
20
22
25
Marginal Cost (MC)
/
$15
5
10
15
20
25
34
46
Break-even outputs at 3 and 6. (These are the ouputs at which P = AC.)
Profit-maximizing output is 5. (This is where P = MC.)
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LO4
Break-even and Shutdown
Break-even Price
• the price at which the firm makes only normal profits; that
is, makes zero economic profits
• As long as the losses from production are less than total
fixed costs, the firm should continue to produce
Shutdown Price
• the price that is just sufficient to cover a firm’s variable
costs
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LO4
Self-Test
The accompanying graph shows the costs for a perfectly competitive firm.
a)
What is the break-even price?
b)
What is the shutdown price?
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LO4
Self-Test
The accompanying graph shows the costs for a perfectly competitive firm.
a)
What is the break-even price?
b)
What is the shutdown price?
a) Break-even price is $140 (the minimum value of the AC).
b) Shutdown price is $100 (the minimum value of the AVC).
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LO5
Deriving the Supply Curve
• The supply curve for a firm is that portion of its MC curve
that lies above its average variable cost curve
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LO5
Self-Test
Given the data for a competitive firm, what quantities will the
firm produce at prices of $25, $35, $45, $55, $65, and $75?
Output
0
1
2
3
4
5
6
7
8
MC
—
$40
20
30
40
50
60
70
80
AVC
—
$40
30
30
32.5
36
40
44.3
48
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LO5
Self-Test
Given the data for a competitive firm, what quantities will the
firm produce at prices of $25, $35, $45, $55, $65, and $75?
Output
0
1
2
3
4
5
6
7
8
MC
—
$40
20
30
40
50
60
70
80
AVC
—
$40
30
30
32.5
36
40
44.3
48
Price
$25
35
45
55
65
75
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Output (Q)
0
3
4
5
6
7
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LO6
Industry Demand and Supply
• In the short run the size of both the firm and the industry
are fixed; In the long run, both are variable
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LO6
Industry Demand and Supply
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LO1
Increasing Cost Industry
• an industry in which the prices of resources and
products both rise as the industry expands
Decreasing Cost Industry
• an industry in which the prices of resources and
products both fall as the industry expands
Constant Cost Industry
• an industry in which the prices of resources and
products remain unchanged as the industry
expands
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LO6
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LO6
Self-Test
Suppose that demand and supply are as shown below.
a) Demand increases by 30 units and new firms enter, causing
supply to increase by 30 units. Draw the new curves D2 and
S2 and identify equilibrium. What are price and quantity?
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LO6
Self-Test
b) As a result of the industry expansion, costs of production
increase by $6 per unit. (The supply curve shifts up by $6). Label
the new supply curve S3 . What are price and quantity? Identify
equilibrium, and draw in the industry’s long-run supply curve.
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LO6
Self-Test
a) New equilibrium is at P = $6, Q = 60
b) New equilibrium is at P = $8, Q = 50
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Chapter 8 Summary
•
•
•
•
•
Concepts of firm, industry, and market
The four types of markets
The conditions for perfect competition and for a
market system
Why perfectly competitive firms have a horizontal
demand curve
Breakeven and shutdown points
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Chapter 8 Summary
•
•
•
•
Maximizing profit using both marginal and total
revenue approach
Deriving a firm’s supply curve
Effects on an industry of changes in demand
The long run supply curve in an increasing-cost,
decreasing-cost, and constant-cost industry
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