Ch 14 Micro Review (Firms in Competitive Markets)

Firms have different costs

-As P rises, firms with lower costs enter the market before those with higher costs -Further increases in P make it worthwhile for higher cost firms to enter the market, which increase market quantity supplied

Key difference between Shutdown and Exit

-If shut down is in the short run, must still pay Fixed Cost (FC) -If exit is in the long run, zero costs

The Zero-Profit Condition

-Long run Equilibrium --the process of entry or exit is complete-remaining firms earn zero economic profit. --Zero economic profit occurs when P = ATC --Since firms produce where P =MR =MC, the zero-profit condition is P =MC =ATC -So in long run P = Minimum ATC

The Long Run Market Supply curve (one firm)

-Price = minimum point on the ATC curve -in long run for one firm, typically earn zero profit

Competitive firm's Long run Supply curve

-The firms Long run supply curve is the portion of its Marginal Cost (MC) curve above the Long Run Average Total Cost (LRATC)

The Short Run market supply curve

-as long as P > or = AVC, each firm will produce its profit maximizing quantity MR = MC

Firm's Long run decision to exit

-cost of exiting the market: Revenue loss = Total Revenue (TR) -benefit of exiting the market: Cost savings = Total Cost (TC) -so firms exit if TR < TC -Exit if P < ATC -ENTER if P > ATC

Firm's Short run decision to shutdown

-cost of shutting down: Revenue loss = Total Revenue (TR) -benefit of shutting down: Cost savings = Variable Cost (VC) -so if Total Revenue (TR) < Total Cost (TC), then shut down -Shut down if Price (P) < Average variable cost (AVC)

Sunk Cost

-cost that has been committed and cannot be recovered -must pay them regardless of choice -Fixed cost (FC) is a sunk cost, firms must pay fixed cost whether it produces or shuts down -WHICH MEANS Fixed Cost (FC) should not matter in decision to shut down

Entry and Exit in the Long Run

-in the long run, the number of firms can change due to entry and exit -If existing firms earn positive economic profit, new firms enter and short run market supply shifts right. Price falls, reducing profits and slowing entry of other firms -If existing firms incur losses, some firms exit and short run market supply shifts left. P rises, reducing remaining firms losses.

Why the Long run supply curve might slope upward

-the Long run supply curve is horizontal if 1) all firms have identical costs, and 2) costs do not change as other firms enter or exit the market -If either of these assumptions is NOT true, then Long run supply curve slopes upward

The Long Run Market Supply curve (Market)

-the curve is simply a horizontal line at P = Min ATC

Competitive firms Short run supply curve

-the firms Short Run supply curve is the portion of its Marginal Cost (MC) curve above the Average Variable Cost (AVC) -if P > AVC then firm produces Q where P = MC -if P < AVC, then firm shuts down (Produces Q = 0)

Market supply: Assumptions

1) All existing firms and potential entrants have identical costs 2) Each firm's costs do not change as other firms enter of exit the market 3) The number of firms in the market is -fixed in the short run (because fixed costs) -variable in the long run (due to free entry and exit in market)

Characteristics for Perfect Competition

1) Many buyers and sellers 2) Goods offered are largely the same 3) Firms can freely enter or exit market

Why would a firm stay in business if profit is 0?

GOOD QUESTION -They would stay because economic profit is revenue minus ALL costs, including implicit costs like the opportunity cost of the owners time and money. -In the zero-profit equilibrium, firms earn enough revenue to cover these costs -- Accounting Profit is positive --

Profit Maximization

If Q increases by one unit, revenue rises by Marginal Revenue (MR), cost rises by Marginal Cost (MC) -If MR > MC, then increase Q to raise profit -If MR < MC, then reduce Q to raise profit -where MR = MC is profit maximization

Total Revenue (TR)

P x Q

the Short Run market supply curve (One firm)

P1 = minimum AVC, any price below P1, each firm will shut down & market quantity supplied will equal 0

Average Revenue (AR)

Total Revenue / Quantity = P

Exit

a LONG RUN decision to leave the market

Shutdown

a SHORT RUN decision not to produce anything because of market conditions

Marginal Revenue (MR)

change in Total Revenue / change in Quanitity

The Short Run market supply curve (Market)

if given an example with 100 identical firms At each P, market Qs = (100 x one firms Qs) (see picture)

The long run market supply curve will be upward sloping when...

when a competitive market experiences an increase in demand that increases production costs for existing firms and potential new entrants