Econ 102 - Chapter 8
What happens when a firm is earning zero economic profit?
It is generating just enough income to keep investor capital in the business No pressure for firms to enter or leave the industry
Long run adjustments with short run economic profits
Lead other firms to enter the market thus raising industry output while lowering prices (supply shift right). The output for individual firms declines as the industry moves to the long run equilibrium point --> firms can only earn normal profits
What are the 4 primary market structures?
*In order form most competitive to least competitive 1. Perfect Competition 2. Monopolistic competition 3. Oligopoly 4. Monopoly
Profit maximizing condition in PC
P* = MC --> specific to perfect competition
Loss Minimization condition
MR = MC or P = ML
T or F In perfectly competitive markets, marginal revenue is always equal to the market price
True
Average total profit per unit formula:
π = [ P - ATC ] x Q
Perfectly competitive firms
- price takers = individual firms get their prices from the market because they are so small they cannot influence market price - firms can only choose quantity sold - firms will choose the quantity that maximizes profit
What are the characteristics of perfectly competitive markets?
- several buyers and sellers have no influence over price - homogeneous products = products are very similar/standardized - zero economic profit for firms - buyers and sellers have full information about prices and product quality - there are no significant barriers of entry
Explain profit maximization
All firms, regardless of market structure, will maximize profits by producing the quantity where MR = MC
Long Run equilibrium for perfectly competitive firm
Economists use perfectly competitive markets as a benchmark when comparing the performance of other market structures. With competition, consumers get just what they want because price reflects their desired and they get these products at the lowest possible price (LRATCmin). The sum of consumer and producer surplus is maximized
When do normal profits occur?
Equal to 0 economic profits Where P = ATC at Q*
What is marginal revenue?
The change in total revenue that results from the sale of an additional unit MR= ΔTR/ΔQ
What happens If P is between ATC and AVC (AVC < P < ATC)?
Then we continue production because we will be able to pay off our fixed costs by continuing production
What happens when price goes down further?
Then we shut down production
Why do economists use market structure analysis?
To categorize industries based on key characteristics: - number of firms - nature of product - barriers of entry - extent of control over price
When should we shut down production?
When P < AVC or P = AVC
