Pure Competition

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Pure Competition

• Chapter 9

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Chapter Overview

• Name the main characteristics of the 4 market
  models
• How does perfect competition maximize profits or
  minimize loss? (Hawks Nobel formula)
• Why are the MC curve and the supply curve the
  same for a perfectly competitive market?
• How is economic efficiency achieved?
• What does long run equilibrium effect economic
  efficiency?

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9.1 Four Market Models

• In Chapter 7 you studied the relationship between
  product demand and total revenue
• In Chapter 8 you studied production costs
• In Chapter 9 you will study how costs and revenue
  come together to determine output quantity and
  price

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9.1 Four Market Models

• All businesses can fit into one of the 4 Market
  Models
• However the models represent a general
  description of a market
• The models are intended to help us differentiate
  between businesses and understand how their
  differences develop price and output decisions

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9.1 4 Market Models 9.2 Pure Competition
Characteristics
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9.3 Demand of a PC model as viewed by the
Competitive Seller

• Perfectly Elastic Demand
• A Perfectly Competitive Seller faces a Perfectly
  Elastic Demand Curve
• It (the individual seller) can neither control
  price by limiting output or lowering its price,
  therefore it has a horizontal demand curve
• The industry faces a downward sloping demand
  curve

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9.3 Demand of a PC model as viewed by the
Competitive Seller

• Average, Total and Marginal Revenue (AR, TR and
  MR)
• In a perfectly competitive market AR and Price
  are the same thing
• Price per unit is also revenue (or AR) per unit
  to the seller
• TR is Price times quantity of sales
• MR the ? TR ? output
• See Figure 9.1

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9.4 Profit Maximization (SR) TR and TC approach
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9.4 Profit Maximization (SR) TR and TC approach

• Because the perfectly competitive firm is a
  price taker it can maximize its economic profit
  (or minimize loss) ONLY by adjusting its output
• In the short run the firm has a fixed plant
• So it adjusts its output via amount of variable
  resources (labor, materials)
• To find maximum profit you can compare either TR
  TC or MR MC

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9.5 Profit Maximization in the SR MR MC approach

• See Table 9.3
• Notice at the point where MC and MR equal is the
  point where a firm will want to stop production
  of more units
• This point is also the point of greatest profit
  (economic profit (P-A) x Q)
• (PPrice AATC QQuantity)

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9.5 Loss-Minimizing

• Short run loss minimization for a purely
  competitive firm
• If price exceeds the minimum AVC but is less than
  the ATC, the MRMC outp will permit the firm to
  minimize its losses.

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9.5 Profit Maximization in the SR MR MC approach

• Shutdown Case
• If the firm changes its price to 71. will it be
  able to continue?
• AVC is greater than the price of 71.
• See Figure 9.5

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9.5 Shutdown case

• The shutdown point for the purely competitive
  market occurs when Price falls below the minimum
  AVC.
• See following slide

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9.6 MC and the SR Supply Curve

• See Figure 9.6
• Note the firm will shut down at a certain price
  (AVC not covered)
• Output and price will both rise from the point
  where AVC are covered
• At which price will the firm achieve economic
  profit?

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9.6 MC and the SR Supply Curve

• Because of the Law of Diminishing Returns, MC
  eventually rise as more units of output are
  produced.
• Because MC rise with output, a purely competitive
  firm must get successively higher prices to
  motivate it to produce additional units of output
• Higher product prices and MR encourage a purely
  competitive firm to expand output.

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9.6 MC and the SR Supply Curve

• Other factors can change the supply curve such
  as wage increases, resource costs, technology
  changes
• Remember supply can shift to the right or to the
  left
• See Figure 9.7
• The industrys supply curve is the sum of the
  individual firms MC curves

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9.7 Pure Competition and Efficiency

• Efficiency
• Productive Efficiency P Minimum ATC
• Allocative Efficiency P MC
• In the Long Run a Purely Competitive firm will
  achieve a normal profit which brings productive
  and allocative efficiencies
• See Figure 9.12

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Chapter Summary

• Review the characteristics of a purely
  competitive market
• How do purely competitive firms maximize profits
  or minimize loss?
• Why is the MC curve above the AVC curve the
  supply curve?
• What does MCMR mean?
• When does productive and allocative efficiencies
  occur?
• What is the LR equilibrium point?