Unit 6 Mod 9 Perfectly Competitive Market

Induces entry of suppliers into the market

A perfectly competitive market is currently in equilibrium. If there is an increase in the market demand, what impact will this have on the market in the long run? Creates economic losses for each firm Induces exit of suppliers from the market Creates economic profits at the firm level Induces entry of suppliers into the market

Shut down the farm. (If the price of wheat falls below average variable cost, the farm should shut down as each unit of wheat sold increases the farm's losses. The farm will still incur losses in the amount of their fixed costs.)

A wheat farmer sees the market price drop below the farm's average variable cost. What is the best strategy, in the short term, for this farm? Continue producing to pay for fixed costs. Shut down the farm. Produce more to attempt to break even.

$750 (Economic profit = (P − ATC)Q = (0.45 − 0.30)(5,000) = $750)

At the profit-maximizing output of 5,000 pounds of wheat per month, average total cost is $0.30 per pound. If market price is $0.45 per pound, what is the total economic profit? $1,500 $750 $2,250 $3,750

4 (The firm will produce up to the point were MR = MC. At a quantity of 4, MR = MC at $10.)

Below is a table showing the production quantity (Qty), marginal revenue (MR), and marginal cost (MC) for an apple orchard: Qty (Bushels): 1 MR: $10 MC: $6 Qty (Bushels): 2 MR: $10 MC: $7 Qty (Bushels): 3 MR: $10 MC: $9 Qty (Bushels): 4 MR: $10 MC: $10 Qty (Bushels): 5 MR: $10 MC: $12 What is the profit-maximizing quantity? 5 4 2 3

Economic Profit

Difference between price and average total cost.

outputs of each firm at each price

Figure 9.10 The supply curve for a firm is that portion of its MC curve that lies above the AVC curve, shown in Panel (a). To obtain the short-run supply curve for the industry, add the _______. The industry supply curve is given in Panel (b).

lowest point

Figure 9.14 If firms in an industry are making an economic profit, entry will occur in the long run. In Panel (b), a single firm's profit is shown by the shaded area. Entry continues until firms in the industry are operating at the _____ on their respective average total cost curves, and economic profits fall to zero.

intersection of demand and supply

Figure 9.16 The initial equilibrium price and output are determined in the market for oats by the______ at point A in Panel (a). An increase in the market demand for oats, from D1 to D2 in Panel (a), shifts the equilibrium solution to point B. The price increases in the short run from $1.70 per bushel to $2.30. Industry output rises to Q2. For a single firm, the increase in price raises marginal revenue from MR1 to MR2; the firm responds in the short run by increasing its output to q2. It earns an economic profit given by the shaded rectangle. In the long run, the opportunity for profit attracts new firms. The short-run supply curve shifts to S2. Market equilibrium now moves to point C in Panel (a). The market price falls back to $1.70. The firm's demand curve returns to MR1, and its output falls back to the original level, q1. Industry output has risen to Q3 because there are more firms.

straight line coming out of the origin single horizontal line at the market price

Figure 9.4 Panel (a) shows different total revenue curves for three possible market prices in perfect competition. A total revenue curve is a ____. The slope of a total revenue curve is MR; it equals the market price (P) and AR in perfect competition. Marginal revenue and average revenue are thus a ______ , as shown in Panel (b). There is a different marginal revenue curve for each price.

$0.40 per pound

Figure 9.5 A perfectly competitive firm faces a horizontal demand curve at the market price. Here, radish grower Tony Gortari faces demand curve d at the market price of $0.40 per pound. He could sell q1 or q2—or any other quantity—at a price of ______.

vertical distance between the total revenue and total cost curves

Figure 9.6 Economic profit is the __________ (revenue minus costs). Here, the maximum profit attainable by Tony Gortari for his radish production is $938 per month at an output of 6,700 pounds.

by the intersection of demand and supply

Figure 9.7 The market price is determined _______. As always, the firm maximizes profit by applying the marginal decision rule. It takes the market price, $0.40 per pound, as given and selects an output at which MR equals MC. Economic profit per unit is the difference between price and ATC (here, $0.14 per pound); economic profit is profit per unit times the quantity produced ($0.14 × 6,700 = $938).

4,444 pounds

Figure 9.8 Tony Gortari experiences a loss when the price drops below ATC, as it does in Panel (b) as a result of a reduction in demand. If price is above AVC, however, he can minimize his losses by producing where MC equals MR2. Here, that occurs at an output of _________ of radishes per month. The price is $0.18 per pound, and average total cost is $0.23 per pound. He loses $0.05 per pound, or $222.20 per month.

continuing to operate than by shutting down

Figure 9.9 The market price of radishes drops to $0.10 per pound, so MR3 is below Gortari's AVC. Thus he would suffer a greater loss by __________. Whenever price falls below average variable cost, the firm will shut down, reducing its production to zero.

It adjusts its output so that MC = MR. (The profit-maximizing level of output occurs where MR = MC. All perfectly competitive firms will continually adjust their output to ensure that MR = MC.)

How does a firm in a perfectly competitive environment adjust its output to price changes in the short run? It adjusts its output so that MC = MR. It adjusts its output to equate TC and TR. It adjusts its output by reducing its price. It adjusts its average output downward.

continue to operate

If price falls below average total cost, but remains above average variable cost, the firm will _____ in the short run, producing the quantity where MR = MC doing so minimizes its losses.

shut down shutdown point.

If price falls below average variable cost, the firm will ____ in the short run, reducing output to zero. The lowest point on the average variable cost curve is called the ____

straight, upward-sloping line, output level

In a perfectly competitive industry, a firm's total revenue curve is a __________ whose slope is the market price. Economic profit is maximized at the _____ at which the slopes of the total revenue and total cost curves are equal, provided that the firm is covering its variable cost.

short run long run short run long run

In a perfectly competitive market in long-run equilibrium, an increase in demand creates economic profit in the _____ and induces entry in the _____; a reduction in demand creates economic losses (negative economic profits) in the _______ and forces some firms to exit the industry in the _____

Marginal revenue and average revenue (Since each unit of the good is sold at the same price, marginal revenue equals average revenue along the demand curve.)

In a perfectly competitive market, what values are always equal? Price and average total cost Price and total revenue Marginal revenue and average revenue Marginal revenue and average total cost

$2.00 (If the profit maximizing quantity is 20, then it is at that quantity that MC = MR. MR (price = marginal revenue) equals $2, so MC must also equal $2.)

JoAnn's gelatin business is operating as a perfectly competitive firm. It sells gelatin for $2.00 per pound and maximizes its profit by producing 20 pounds per day. The following table shows values of the quantities sold in pounds (Qty), the price of the gelatin, and the marginal cost (MC). Qty (pounds): 10 Price: $2.00 MC: $0.50 Qty (pounds): 20 Price: $2.00 MC: ? Qty (pounds): 30 Price: $2.00 MC: $8.00 Qty (pounds): 40 Price: $2.00 MC: $32.00 What is the firm's marginal cost at 20 pounds? $7.50 $32.00 $2.00 $1.00

Perfect Competition

Model of the market based on the assumption that a large number of firms produce identical goods consumed by a large number of buyers.

demand and supply

Price and output in a competitive market are determined by ____. In the market for radishes, the equilibrium price is $0.40 per pound; 10 million pounds per month are produced and purchased at this price

the interaction of demand and supply.

The central characteristic of the model of perfect competition is the fact that price is determined by _____; buyers and sellers are price takers.

only with explicit costs incorporates explicit and implicit costs.

The economic concept of profit differs from accounting profit. The accounting concept deals _____, while the economic concept of profit_____

entry exit zero economic profit

The existence of economic profits attracts ____, economic losses lead to ____, and in long-run equilibrium, firms in a perfectly competitive industry will earn ______.

Total Revenue (TR)

a firm's total value of output, obtained by multiplying the units of product produced by the price of that product

Marginal Revenue (MR)

The increase in total revenue from a one-unit increase in quantity;equals slope of TR

1. a large number of firms producing identical (homogeneous) goods or services, 2. a large number of buyers and sellers, easy entry and exit in the industry, 3. complete information about prices in the market.

The model assumes what 3 things?

marginal cost equals marginal revenue price minus average total cost economic profit per unit times quantity.

To use the marginal decision rule in profit maximization, the firm produces the output where ________. Economic profit per unit is _______; total economic profit equals ______

Marginal revenue (Marginal revenue is the change in total revenue that results from selling one more unit of the good.)

What do economists call the change in total revenue resulting from selling one more unit? Profit Marginal cost Marginal revenue Average variable cost

Price is determined by the interaction of demand and supply.

What is a characteristic of the perfect competition model? Firms may enter the market easily, but exiting is costly. Price is determined by the firm. Price is determined by the interaction of demand and supply. Buyers may function with incomplete information about the product.

Buyers have complete information about product and price (One assumption of the perfectly competitive model is that buyers have complete information about products and their prices.)

What is an assumption in the perfectly competitive model? Buyers have complete information about product and price Firms have incomplete information about product and price A small number of buyers and sellers Many firms produce different goods or services

There are many substitutes. (In a perfectly competitive market, there are many substitutes for the goods being sold. This means that a consumer can switch to a different good or service if there is a change in the demand, supply, or price of the good they were initially considering.)

What is true in a perfectly competitive environment? There are expensive substitutes. There are limited substitutes. There are no substitutes. There are many substitutes.

1. International Express Mail Service: Not perfectly competitive—There are few sellers in this market (FedEx, UPS, and the United States Postal Services are the main ones in the United States), probably because of the difficulty of entry and exit. To provide these services requires many outlets and a large transportation fleet, for example. 2. Corn: Perfectly competitive—There are many firms producing a largely homogeneous product and there is good information about prices. Entry and exit is also fairly easy as firms can switch among a variety of crops. 3. Athletic Shoes: Not perfectly competitive—The main reason is that goods are not identical.

Which goods and services are likely produced in a perfectly competitive industry? Relate your answer to the assumptions of the model of perfect competition. -International express mail service -Corn -Athletic shoes

Price Takers

individuals or firms who must take the market price as given

Economic Loss

the amount by which a firm's total cost exceeds its total revenue

Shutdown Point

the minimum point on a firm's average variable cost curve; if the price falls below this point, the firm shuts down production in the short run

Average Revenue (AR)

total revenue divided by the quantity of the product sold