Professional Documents
Culture Documents
Market Structure - Perfect Competition
Market Structure - Perfect Competition
• Components of Market
sellers
buyers
product
price
exchange
• Homogeneous product
– Identical, perfect substitutes
Pe
D
O
Q
Industry
Perfect Competition: Price & Revenue
1 6 6 6
2 6 12 6 6
3 6 18 6 6
4 6 24 6 6
5 6 30 6 6
6 6 36 6 6
7 6 42 6 6
P S P
P = AR = MR
Qe Q Q
(a) Industry (b) Firm
Perfect Competition
– Output
• Where MC=MR and MC cuts MR from below
– Profit
= TR-TC
• (AR – AC) × Q
• possible supernormal profits
Equilibrium of industry and firm under perfect competition
P P
S
Pe D = AR
AR
= MR
Equilibrium Point
-MC=MR=Price
- MCDcut MR from below &
O MC must be raisingO after Qe
Q Q
Equilibrium Point
Super Normal
P Rs
Profit
S (AC < Price) MC AC
Pe D = AR
AR
AC = MR
D
O O Qe
Q Q
P P AC
S MC
AC
D1 = AR1
P1 AR1
= MR1
D
O O Qe
Q (millions) Q (thousands)
Normal Profit
MC = MR
P P AC = AR
S MC
AC
D2 = AR2
P2 AR2
= MR2
D2
O O
Q Q
P P AC
S MC
AVC
D2 = AR2
P2 AR2
= MR2
D2
O Q O
Q
• the MC curve
Profits return
Supernormal profits
New firms enter to normal
P P
S1
Se
LRAC
P1 AR1 D1
PL ARL DL
D
O O QL
Q (millions) Q (thousands)
LRAC
DL
AR = MR
O output
• Firm is in equilibrium when MC=MR and MC cuts MR from
below(or MC must be rising).
• Firm maximizes the profit when the price(AR) exceeds the AC.
• Firm minimizes the loss when AC exceeds AR.
• In the short run firms earn either supernormal profits(when AR
exceeds AC), incurs loss (when AC exceeds the AR) and
normal profits (AR equals AC) or will be forced to shut
down(when price or AR falls short of minimum of AVC).
Long Run Equilibrium under perfect competition
• Long run shows the entry and exit of the firms into the
industry. If firms in the industry make supernormal profits in
the short run, new firms will enter the industry till the excess
profits get wiped out.