Economics: TOF perfect competition
productive efficiency
(Also known as technical efficiency) occurs when production takes place at the lowest possible cost. The condition is the following: productive efficiency is achieved when production occurs at minimum ATC.
When is the firm making a loss but should continue producing because it's loss is smaller than its fixed cost?
When ATC> P> AVC at the level of output where MR=MC. Graphically, this occurs when the demand curve lies below minimum ATC and above minimum AVC.
When does the firm earn positive economic profit (supernormal profit)?
When P> ATC at the level of output where MC=MR
When should the firm shut down in the short run because it will make a loss equal to its fixed cost?
When the price falls below the shut-down price, so that P< minimum AVC
The price is constant regardless of the level of output sold in PC so P=?
No matter how much output the perfectly competitive form sells, P=MR=AR and these are constant at the level of the horizontal demand curve.
Advantages of the perfect competition model
1) allocative efficiency (optimal allocation of resources) 2) productive efficiency 3) low prices for consumers due to a) achievement of productive efficiency b) absence of economic profits 4) competition leads to the closing down of inefficient producers. 5) the market responds to consumer tastes 6) the market responds to changes in technology or resource prices.
Assumptions
1) large number of firms 2) all firms produce homogenous products 3) there is free entry and exit 4) there is perfect (complete) information 5) there is perfect resource mobility.
Limitations of the model( PC)
1) unrealistic assumptions 2) limited possibilities to take advantage of economies of scale. 3) lack of product variety 4) waste of resources in the process of long-run adjustment. 5) limited ability to engage in research and development (lack of economic profits) 6) market failure/ real world situations
Firm produces at a loss, but it's loss it's loss is less than fixed costs so it continues to produce when...
ATC> P> AVC
Types of profit maximization in the short run
At the profit-maximizing level of output Q: 1) if P>ATC, the firm makes supernormal profit (positive economic profit) 2) if P=ATC, the firm breaks even, making zero economic profit, though it is earning normal profit. 3) if P<ATC, the firm makes a loss (negative economic profit)
Firm makes zero economic profit but earns normal profit when...
Break-even price so P= minimum ATC
Short-run profit maximization based on the marginal revenue and marginal cost rule
I) compare marginal revenue with marginal cost to determine profit-maximizing (or loss-minimizing) level of output --- MR=MC for maximum profit II) compare average revenue (price) and average total cost to determine the amount of profit (or loss) per unit of output. (TR-TC)/Q III) Find total profit or total loss
The firm's short-run supply curve of the perfectly competitive firm
It is the portion of its marginal cost curve that lies above the point of minimum AVC
What happens to a loss-making firm in the long run?
It shuts down and exits the market when price falls below minimum ATC.
Allocative efficiency
Occurs when firms produce the particular combination of goods and services that consumers mostly prefer. The condition is the following: allocative efficiency is achieved when P=MC
The firm's loss = fixed costs; this P is the firm's short-run shut-down price when...
P = minimum AVC
Firm shuts down (stops producing) when...
P<AVC I.e. When the price falls below the shit-down price; it's loss will then be equal to its foxed costs.
Firm makes economic profit when...
P> ATC
How does the demand curve for a good facing the perfectly competitive firm look like? What it represent?
The demand curve for a good facing the perfectly competitive firm is perfectly elastic (horizontal) at the price determined in the market for that good. This means the firm is price-taker, as it accepts the price determined in the market.
In the long-run equilibrium under perfect competition, is the firm allocatively efficient? Productively efficient.
The firm achieved both allocative efficiency (P=MC) and allocative efficiency (production at minimum ATC). At the level of the industry, social surplus (consumer plus producer surplus) is maximum, and MB=MC.
In the short-run, is the perfectly competitive firm allocatively efficient? Productively efficient?
The firm achieves allocative efficiency (P=MC) but is unlikely to achieve productive efficiency.
The short run shut-down price is P= minimum AVC: ?
The firm shits down (stops producing) when price falls below minimum AVC
The long-run shut-down price is P= minimum ATC: ?
The firm shuts down (leaves the industry) when price falls below minimum ATC.
At what price is the firm breaking even? i.e. It is making zero economic profit, but is earning normal profit.
The firm's break-even price is at the minimum ATC
How does the perfectly competitive long-run equilibrium look like?
The firm's' economic profits and losses are eliminated, and revenues are just enough to cover all economic costs so that every firm earns normal profit.
What is the shut-down price in the short run? And when does it occur?
The price P= minimum AVC is the firm's shut -down price in the short run. At this price, the firm's total loss is equal to is total fixed cost.