Market Analysis

Perfect Competition and supply curve

Outline
• Perfectly competitive market
• its characteristics
• Profit maximizing quantity of output
• Short run versus long run
Perfect competition
• A perfectly competitive market is a hypothetical market where
competition is at its greatest possible level.

• Neo-classical economists argued that perfect competition would

produce the best possible outcomes for consumers, and society.
Perfect competition
• When there is enough competition—when competition is what
economists call “perfect”—then every producer and consumer are
the price - taker.

• Neither consumption decisions by individual consumers nor

production decisions by individual producers affect the market price
of the good.
Price taking
• A price - taking producer is a producer whose actions have no effect
on the market price of the good or service it sells.

• A price - taking consumer is a consumer whose actions have no effect

on the market price of the good or service he or she buys.
Competitive market and industry
• A perfectly competitive market is a market in which all market
participants are price - takers. Example: wheat, rice

• A perfectly competitive industry is an industry in which producers are

price -takers. Example: wheat, rice
Characteristics of Perfect Competition
• Large number of buyers and sellers
• it must contain many producers and consumers, none of whom have a large market share.

• no barriers to entry into or exit out of the market.

• Perfect factor mobility

• All factors of production are adjustable in the long run
• Perfect information
• no information failure or time lags. Knowledge is freely available to all participants,
Characteristics of Perfect Competition
• Zero transaction costs
• Buyers and sellers do not incur costs in making an exchange of goods
• Firms do Profit maximization
• All firms will maximize their profit
• Homogeneous products
• Firms produce homogeneous, identical, units of output that are not branded.
• Property rights
• Well defined property rights determine what may be sold, as well as what rights are
conferred on the buyer.
Characteristics of Perfect Competition
• No externalities
• Costs or benefits of an activity do not affect third parties.
• Rational buyers
• Buyers are capable of making rational purchases based on information given.
• No need for government regulations
• Government need not to control market
Production and profits
• Profit = TR − TC
Marginal Revenue
• Marginal revenue is the change in total revenue generated by an
additional unit of output.
Profit - Maximizing Quantity of Output
• According to the optimal output rule, profit is maximized by
producing the quantity of output at which the marginal revenue of
the last unit produced is equal to its marginal cost.
• MR=MC

• According to the price - taking firm’s optimal output rule, a price -

taking firm’s profit is maximized by producing the quantity of output
at which the market price is equal to the marginal cost of the last unit
produced.
• P=MC
Profit maximization level of output?
• MR=MC, Where? How much to produce?

• What if MR is not exactly equal to MC?

• In that case, you produce the largest quantity for which marginal revenue
exceeds marginal cost. This is the case in Table 12-2 at an output of 5 bushels.
Profit - Maximizing Quantity of Output
Profit - Maximizing Quantity of Output
• In effect, the individual firm faces a horizontal, perfectly elastic
demand curve for its output—an individual demand curve for its
output that is equivalent to its marginal revenue curve.

• The marginal cost curve crosses the marginal revenue curve at point
E. Sure enough, the quantity of output at E is 5 bushels.
When Is Production Profitable?
Costs and
Production
in the Short Run
When Is Production Profitable?
If the firm produces a quantity at which
• P > ATC, the firm is profitable. (because TR>TC)
• P = ATC, the firm breaks even. (because TR=TC)
• P < ATC, the firm incurs a loss. (because TR<TC)

Profit =(P − ATC) × Q

Profitability and the Market Price
The Short - Run Individual Supply Curve
• The break - even price of a price -taking firm is the market price at
which it earns zero profit.
• A firm will cease production in the short run if the market price falls
below the shut - down price, which is equal to minimum average
variable cost.
• the minimum average variable cost is equal to the shut - down price
Numerical example 1

B . Calculate marginal revenue and marginal cost

for each quantity. Graph them. At what quantity
do these curves cross? How does this relate to
your answer to part (a)?

c. Can you tell whether this firm is in a

competitive industry?
B. AT 6
c. Competitive industry
Monopoly Market
topic
• Characteristics of monopoly market
• Determination of price and quantity in monopoly market
• Difference between monopoly and perfect competition
• Problems posed by monopolists
• Price discrimination
Types of Market Structure
Economists have developed four principal models of market structure:
• perfect competition,
• monopoly,
• oligopoly,
• monopolistic competition

This system of market structures is based on two dimensions:

• The number of producers in the market (one, few, or many)
• Whether the goods offered are identical or differentiated
Types of Market Structure
Monopoly
• A monopolist is a firm that is the only producer of a good that has no
close substitutes.

• An industry controlled by a monopolist is known as a monopoly.

What monopolist do?
Why Do Monopolies Exist?
Because of barrier to entry.
There are five principal types of barriers to entry:
• control of a scarce resource or input,
• increasing returns to scale,
• technological superiority,
• a network externality, and
• a government-created barrier to entry.
Barriers to entry
• A natural monopoly exists when increasing returns to scale provide a
large cost advantage to a single firm that produces all of an industry’s
Output.

A network externality exists when the value of a good or service to an

individual is greater when many other people use the good or service
as well.
How a Monopolist Maximizes Profit
IS THERE A MONOPOLY SUPPLY CURVE?
• monopolists don’t have supply curves.
• Remember that a supply curve shows the quantity that producers are
willing to supply for any given market price.
• A monopolist, however, does not take the price as given; it chooses a
profit - maximizing quantity, taking into account its own ability to
influence the price.
Monopoly versus Perfect Competition
• P = MC at the perfectly competitive firm’s profit - maximizing
quantity of output

P > MR = MC at the monopolist’s profit - maximizing quantity of output

What monopolist does
• Produces a smaller quantity: QM < QC
• Charges a higher price: Pm> Pc
• Earns a profit
Monopoly: The General Picture
Monopoly Causes Inefficiency
Preventing monopoly

• The government policies used to prevent or eliminate monopolies are

known as antitrust policy.