Micro Chapter 9
Which of the following is a characteristic of a competitive market?
- All firms in the market are selling similar products. Right. Each of the following is a characteristic of competitive markets: many sellers, similar products, free entry and exit, price taking, and every firm is small.
When ________ firms are making a profit, this is a signal to other firms to enter the market. The result is increased ________, which leads to a reduction in price and therefore a reduction in profit. In long-run equilibrium, ___________ profit is zero; there is no signal to enter and no signal to _________.
- existing - supply - economic - leave (Profit and loss signals are a kind of feedback mechanism that maintains market equilibrium.)
All firms, whether they are active in a competitive market or not, attempt to maximize profits.
- making a profit requires that a firm have a thorough grasp of its costs and revenues.
Fill in the blanks to complete the passage about short-run operating loss. In the short run, a profit-maximizing firm should operate even when it is losing money, so long as the market ________ is above ________________. In this situation, continued operation enables a firm to cover all of its ___________ and some of its ___________ with any remaining revenue.
- price - average variable cost - variable cost - fixed cost *[If the company can cover some of its fixed cost, it will do better by producing than by shutting down in the short run. This is because the firm must still pay all of its fixed costs in the short run]
Firms that produce goods in a competitive markets are known as
- price takers That's right! Competitive markets have many participants, all selling similar goods. A firm in a competitive market is known as a price taker, because it has no control over the price set by the market.
There are many ________ in a competitive market. Firms in this market sell very _________ products, and each firm also has ____________ to the market. Each firm is also considered a price ________.
- sellers - similar - easy entry and exit - taker (The four characteristics of competitive markets provide a checklist for determining why certain markets are not competitive.)
Fill in the blanks to complete the passage regarding sunk costs for a manufacturer of ethanol. Ethanol, a biofuel derived from corn, is used in the production of both gasoline and pharmaceutical-grade hand sanitizer. During the pandemic, as the demand for gasoline plummeted, several producers of ethanol retrofitted their plants by purchasing new capital in order to produce a higher-quality ethanol, which could be used to make a medical-grade hand sanitizer. Future decisions about whether to produce ethanol for gasoline or for hand sanitizer ___________ be informed by the _______ costs they incurred to retrofit their plant.
- would not - sunk [Good economists learn to ignore sunk costs and focus on marginal value. They compare marginal benefits and marginal costs.]
Which descriptions apply to the long-run equilibrium in a perfectly competitive market?
Applies to Market Equilibrium - Economic profit is zero. - No "exit" or "enter" signals are being sent. - Firms outside the market have no incentive to enter. - Firms in the market have no incentive to exit. Does Not Apply to Market Equilibrium - Firms will raise their prices to increase profits. - Accounting profit is zero. Accounting profit must be positive. It does not factor in certain costs, such as opportunity costs. In equilibrium, being in the market and being out of it are equally attractive, as reflected by economic profit being zero. Accounting profit must be positive.
The following options describe costs incurred by owners of a given business. Identify which would be considered a sunk cost for a firm that is considering exiting a market.
Sunk Cost ~a new large billboard sign displaying "Shantel's Shoes" for Shantel's Shoe Shop [Unless Shantel knows someone else with the same name who sells shoes and likes her sign, Shantel is unlikely to sell her sign to another firm] ~four wedding cakes for Carlos's Cakes Shop [Cakes are the final good and can be sold, but the costs or ingredients (like sugar, flour, and eggs) in the cake cannot be resold] ~the cost of taking two online photography classes by Philipe of Philipe's Photography Shop [Once Philipe takes the online classes, what he paid is not a recoverable cost] - the cost of the ingredients used for four freshly baked wedding cakes for Carlos's Cakes Shop [Cakes are the final good and can be sold, but the cost of ingredients (like sugar, flour, and eggs) in the cake cannot be resold.] Not a Sunk Cost ~the cost of two riding lawnmowers for Luke's Lawn Care [Lawnmowers are equipment that can be sold, so at least some of the cost can be recovered] ~fireworks for Frida's Fireworks Displays [Sunk costs are unrecoverable—if you cannot recover costs in a business, they should not be part of the decision to stay or exit a market] [Sunk costs are unrecoverable—if you cannot recover costs in a business, they should not be part of the decision to stay or exit a market.]
Dutch auction
an auction in which the opening price is set high and then drops until someone buys
Match each concept to a corresponding example.
cost of fuel to run a factory workspace heating system during the winter explicit cost Correct label: explicit cost lost income due to investing in machinery retooling rather than materials to produce more units of implicit cost Correct label: implicit cost total revenue minus all costs, including opportunity cost economic profit Correct label: economic profit total revenue minus fixed and variable costs associated with plant operations accounting profit Correct label: accounting profit (A company needs to show a positive accounting profit to stay in operation. For economic profit, it is sufficient to stay at zero.)
Drag the labels into place in the figure for a market leaving, and then returning to, equilibrium as firms exit after a decrease in demand.
dark red slope ~final short-run supply light red slope ~original short-run supply horizontal line (P1) ~long-run supply light blue slope ~ Original short-run demand dark blue slope ~final short-run demand* [The final equilibrium price is the same as the original price]
price taker
has no control over the price set by the market. It "takes" - that is, accepts - the price determined by the overall supply and demand conditions that regulate the market. (One of the reasons why firms are price takers is that each seller is small compared to the overall market. This means that any individual seller's decision (to either increase or decrease production) has no impact on the market price.)
The following graphs represent a given market and a firm within the market. Suppose there is a decrease in the market demand. With a beginning point of a long run equilibrium, select three points, two in Figure (a) and one in Figure (b), that represent a market in the middle of adjusting to a decrease in market demand in the short run.
left graph ~dotted line @ C2 & q2 [This is the firm's average cost per item at the lowered production quantity Q2] ~solid line & dotted line @ P2 & q2 [The price has dropped to P2, and the individual firm has responded by reducing its output to Q2]right graph ~dotted line @ P2 & Q2 [The shift in the demand curve has dropped the equilibrium price from P1 to P2 and the quantity supplied from Q1 to Q2]
Competitive markets
markets that have many buyers and sellers so that no single buyer or seller can influence the price new competitors can easily enter the market when barriers to entry into a marketplace are low, new firms are free to compete with existing businesses, which ensures the existence of competitive markets and low prices.
Which of the following conditions are true when a firm is maximizing its profits?
true: -selling additional units will reduce profits (Beyond the optimal point, marginal costs exceed marginal revenue, and profits will decrease as each unit costs more than the revenue earned from selling it.) -revenue gained from the next unit sold equals the cost of producing it (marginal revenue (MR) = marginal cost (MC).) NOT true - total revenue is maximized / total number of units sold is maximized (Total revenue is maximized only when marginal revenue is equal to zero, which is typically at a high level of production. Producing so many units also increases total costs. This can decrease profits or potentially create a loss)
Select the segment that functions as the individual firm's short-run supply curve.
~MC top slope [The firm will produce as long as price is greater than or equal to minimum AVC. This makes the upward-sloping segment of MC starting at minimum AVC and going upward function as the firm's short-run supply curve] ~MC middle slope [The firm will produce as long as price is greater than or equal to minimum AVC. This makes the upward-sloping segment of MC starting at minimum AVC and going upward function as the firm's short-run supply curve]
Imagine a perfectly competitive market where all the firms have the cost structure shown below. Where will the long-run equilibrium market price settle?
~P2 [Firms choose an output where MR = MC, so P2 × Q = TR and ATC × Q = TC. There is no economic profit at P2. The long-run price occurs where there is no incentive for firms to enter or leave the market]
Of the four quantities shown, assuming the market price remains the same, select the output that leads to a normal profit or break-even point. (Keep in mind that this concept is different from the profit-maximizing output.)
~Q4 [When P* = ATC, TR = TC, which leads to a $0, or normal, profit]
At a market price of $10, the profit-maximizing output for Mr. Plow is 9 driveways. Quantity (Q = driveways cleared) 0, 1, 2, 3, 4, 5, 6, 7, 8, 9, 10 Total revenue (TR) 0, 10, 20, 30, 40, 50, 60, 70, 80, 90, 100Total cost (TC) 20, 29, 36, 41, 44, 46, 49, 57, 67, 90, 140
~false [Increasing from 8 driveways to 9, the MR = 10 but the MC = 23. At 8 driveways, the MR = 10 and the MC = 10, so Mr. Plow would stop clearing at 8 driveways with a profit of $13]
Reece prepaid for a trip over spring break in 2020, right before major cities started to issue lockdown mandates due to rapid spread of the coronavirus. Given all the uncertainty around travel and disease spread, she tried to get a refund, but was told it was too late. She felt very uncomfortable going and knew she would not enjoy her trip at all. Therefore, she made new plans to spend spring break on campus binge-watching her favorite TV shows. An economist would explain Reece's decision to be - because she - the prepaid cost, and made her decision based on the marginal benefit and cost of going. In economics these prepaid costs would be referred to as - costs, which are unrecoverable.
~rational ~ignored ~sunk [Try to think of times where someone has based a decision off previous costs that have been incurred. For example, suppose a friend comes to you about a class he or she is failing; you both look at the grades and determine there is no way to pass the course at this point. However, your friend insists on not dropping because of all the work already put into this course. A good economist would remind your friend that just because time has been spent on a class he or she cannot pass, it is not rational to continue]
