Microeconomics

   
Lecturer: Yong EL
BEcon (Hons), MEcon, PhD (Econ)    

SJ13203
All contents are strictly copyrighted.
Microeconomics Lecture 9
SJ13203 Perfect Competition
Course Professor: Yong EL

Source: Pexels
Quick Info: Is advertisement needed for this vegetable?
3
Where to buy?

How much per bunch?

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Are they generally the same?

Broccoli

Source: Pexels
 Variation of Market Structure
4

Perfect Imperfect
Competition Competition

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Monopoly Oligopoly
 Price Taker
Seller Buyer 5

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Pexels Image You
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Notes**
• Many buyers and sellers in the market of broccoli.
• One buyer or seller is only a tiny unit in the market.

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• Therefore, individual buyers and sellers do not have the
market power to influence the price.
• Everyone in the market is a price taker. Market price is
determined jointly by all buyers and sellers.

**Students are required to make comprehensive notes for revision and examination.
 The Firm is a Price Taker

Price (RM)
Market
Price (RM)
Firm Figure 1 7

Sc

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E
P0 P0 Dc

Dc

0 Q0 0
Output Output
(unit) (unit)
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Notes**
• Demand and supply in the market determine an
equilibrium price, P0.

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• As a price taker, each firm in the market accepts and
takes the price determined by the market.
• For example, if RM3/unit is the market price to sell
broccoli, each firm sells broccoli using this price level
(no firm alone can change this market price).

**Students are required to make comprehensive notes for revision and examination.
 The Firm is a Price Taker

Price (RM)
Market
Price (RM)
Firm Figure 2 9

Sc

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E1
P1 P1 Dc1
E0
P0 P0 Dc0

Dc1

Dc0

0 Q0 0
Output Output
(unit) (unit)
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Notes**
• Suppose that a vegetable festival increases the demand
for broccoli in the market, the demand curve shifts
from Dc0 to Dc1.

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• A new equilibrium price is established, P 1.
• As a price taker, individual firms must accept P 1 as the
price level in transactions with consumers.

**Students are required to make comprehensive notes for revision and examination.
 Homogenous Product
11
Broccoli
Market
Seller Seller
A B

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Similar Product.
Perfect Substitute.
Buyers are
indifferent.
 Other Characteristics
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Perfect Market
Easy Mobility
Knowledge

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• Prices • Factors of production
• Factors of production are generally similar.
and the costs • All firms use the same
• Perfect knowledge inputs.
ensures the same price • Inputs can easily move
among markets and from one firm to
inputs required in the another.
production. • Firms can enter or
exist the market
without difficulty.
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Quiz
• Name the several characteristics of perfectly
competitive market.

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 Total Profit

• Total profit are the different between total revenue (TR) and 14
total cost (TC).

Total profit = Total revenue (TR) – Total cost (TC)

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• In the short run,
Total profit = TR – Short-run total cost (STC)
Total profit = TR – (variable cost + fixed cost)

• The equation implies that total profit can be positive (means

profit) or negative (means loss).
Value (RM)

Figure 3 15

Max: (TR > TC)

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Output
0
q0 q* q1 (unit)

Total Profit
Value (RM)

Figure 4 16
TC
TR

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Max: (TR > TC)

Output
0 q0 q* q1 (unit)
 Total Revenue

• The total revenue (TR) is a linear line because we assume 17

that there is only one price under perfect competition.
• The total revenue increases by a constant rate for each
additional unit of output sold.

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Total revenue = Price per unit (P) x quantity (q)
 Marginal and Average Revenue

• Because of the constant price, marginal revenue and

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average revenue of the firm is equal to the price.
Price per unit (P) = Marginal revenue (MR) = Average revenue (AR)

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Marginal revenue (MR) = Change in total revenue / change in total output
Marginal revenue (MR) = ΔTR/Δq
Marginal revenue (MR) = P x (Δq/Δq)
Marginal revenue (MR) = P

Average revenue (AR) = total revenue / total output

Average revenue (AR) = P x (q/q)
Average revenue (AR) = MR x (q/q)
Average revenue (AR) = MR
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Proof: Why P = MR?

P Demand (Q) TR ΔQ ΔTR MR

10 25

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10 50
10 75
10 100
10 125

MR = ΔTR / ΔQ
Value (RM)
Figure 5 20

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P MR = AR

Output
0 (unit)
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Notes**
• From Lecture 7, we explain the variation of cost curves:
short-run average variable cost (SAVC), short-run
average fixed cost (SAFC), short-run average total cost

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(SAC), short-run marginal cost (SMC), and long-run
marginal cost (LMC).
• The concepts mentioned above will be used for the
following concept of equilibrium at firm level.

**Students are required to make comprehensive notes for revision and examination.
Equilibrium Condition under Perfect Competition

• The firm’s objective is to maximise profit.

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• To achieve this objective, the firm produces until its
marginal revenue (MR) is equal to its marginal cost (MC).

Marginal revenue (MR) = Marginal cost (MC)

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P = Marginal cost (MC)
 Quiz: At which of the output levels should the firm produce? Why?
Value (RM)
Figure 6 23

MC

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Z X
P MR = AR

Output
0 q0 q1 q2 (unit)
Value (RM)

Figure 7 24

MC
AC

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a AVC
C
P
e
MR = AR

Output
0 q* (unit)
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Notes**
• At equilibrium, P = MC, quantity q* is produced. The
equilibrium point is found below AC.

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• At q*, the value of AC is larger than AR, which means
TR is less than TC.
• The shaded area, C-a-e-P, is total loss.

**Students are required to make comprehensive notes for revision and examination.
Value (RM)
Figure 8 26

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MC
AC

P
e
MR = AR

C AVC
a

Output
0 q* (unit)
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Notes**
• At equilibrium, P = MC, quantity q* is produced. The
equilibrium point is found above AC.

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• At q*, the value of AC is smaller than AR, which means
TR is larger than TC.
• The shaded area, P-e-a-C, is total profit.

**Students are required to make comprehensive notes for revision and examination.
Value (RM)

Figure 9 28

MC
AC

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AVC
P
e
MR = AR

Output
0 q* (unit)
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Notes**
• At equilibrium, P = MC, quantity q* is produced. The
equilibrium point is found at the minimum point of AC.

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• At q*, the value of AC is equal to AR, which means TR is
equal to TC.
• Because TR = TC, this is called a normal profit.
• What if AR is equal to than AVC?

**Students are required to make comprehensive notes for revision and examination.
Value (RM)

Figure 10 30
MC
AC

a
C

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AVC

e
P MR = AR

Output
0 q* (unit)
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Notes**
• Because P = MC is located at the minimum point of AVC,
the firm’s loss is equal to area C-a-e-P.

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• C-a-e-P = total fixed cost (TFC).
• What if the price is lower than AVC?

**Students are required to make comprehensive notes for revision and examination.
Value (RM)

Figure 11 32
AC
MC

C0 a
AVC

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C1 b
P e MR = AR

Output
0 q* (unit)
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Notes**
• Because P = MC is located below the minimum point of
AVC, the firm’s loss is equal to area C 0-a-b-C1 plus C1-b-
e-P.

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• C0-a-b-C1 = total fixed cost (TFC) and C1-b-e-P = total
variable cost (TVC).
• In this case, the firm incurs losses from both fixed and
variable costs.
• If the firm ceases operation, it can avoid the amount of
variable cost but still incur the total fixed cost.

**Students are required to make comprehensive notes for revision and examination.
 Normal Profit in the Long Run
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• As firms under a perfectly competitive market are easy to
enter and exist the market, the price mechanism over time
will eliminate short-run profit or loss.
• In the long run, the perfectly competitive firm will obtain
only a normal profit.

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 Long-Run Equilibrium
Value (RM)

Figure 12 35

SMC LMC LAC

SAC

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P
e
MR = AR

Output
0 q* (unit)
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Notes**
• In the long run, the equilibrium condition is:
SMC=LMC=SAC=LAC=MR=AR.

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• Because AR=LAC, the firm makes only a normal profit
in the long run.

**Students are required to make comprehensive notes for revision and examination.
 From Profit to Normal Profit
Price (RM)

Figure 13 37
Sc0

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E0
P0

Dc0
Output
0 Q0 (unit)
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Notes**
• The short-run market equilibrium price is established
at P0 when the market demand curve crosses the
market supply curve at point E0.

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**Students are required to make comprehensive notes for revision and examination.
 From Profit to Normal Profit
Value (RM)

Figure 14 39
SMC0

SAC0
e0
P0 MR0 = AR0
b

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C

Output
0 q0 (unit)
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Notes**
• The short-run market price P0 is taken by individual
firms in production.

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• When P = MC at point e0, AC is less than AR. The total
profit earned is equal to the area P 0-e0-b-C.

**Students are required to make comprehensive notes for revision and examination.
 From Profit to Normal Profit
Price (RM)
Figure 15 41
Sc0
Sc1

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E0
P0
E1
P1

Dc0
Output
0 (unit)
Q0 Q1
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Notes**
• At P0, the realisation of profit can attract new firms to
enter the market in the long run.

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• Consequently, the increase in total market supply (shift
in the supply curve from Sc0 to Sc1) leads to a new
market equilibrium at point E 1.
• The long-run market price is P1, which is lower than the
short-run market price P0.

**Students are required to make comprehensive notes for revision and examination.
 From Profit to Normal Profit
Value (RM)
Figure 16 43
SMC0

SAC0 SMC1 LMC LAC

e0
P0 MR0 = AR0
SAC1
b

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C

Output
0 q0 q* (unit)
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Notes**
• The long-run condition is indicated by the presence of
the long-run cost curves, such as LMC and LAC.

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• SMC and LMC curves cross at the minimum point of the
SAC and LAC curves, respectively.

**Students are required to make comprehensive notes for revision and examination.
 From Profit to Normal Profit
Value (RM)
Figure 17 45
SMC0

SAC0 SMC1 LMC LAC

e0
P0 MR0 = AR0
SAC1
b

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C

e1
P1 MR1 = AR1

Output
0 q0 q* (unit)
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Notes**
• The decrease in the market price from short run to long
run means equivalently the decrease in MR=AR=P
condition.

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• P1 is taken by the perfectly competitive firm in production.
• At P1 = MR1 = AR1, the equilibrium point is point e 1.
Because SMC=LMC=MR=AR is found at the minimum point
of SAC=LAC, this means TR=TC.
• Consequently, the profit in the short run becomes a normal
profit in the long run.

**Students are required to make comprehensive notes for revision and examination.
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Quiz
• What could be the long-run profit condition if a perfectly
competitive firm initially incurs loss in the short run?

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 End of Lecture 9
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An inspirational quote for you:

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‘Problems are not stop signs, they are guidelines.’
(Robert H. Schuller)

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Prepared by Yong EL