AGENDA Thurs 10/15. Partner Practice (CH 8: P # 3, 4) QOD #23: Share the Wealth PC in the LR (Graphing) HW: Read pp Q #5,6

Transcription

1 AGENDA Thurs 10/15 Partner Practice (CH 8: P # 3, 4) QOD #23: Share the Wealth PC in the LR (Graphing) HW: Read pp Q #5,6

2 QOD #23: Share the Wealth A firm in a purely competitive industry has a typical cost structure. The normal rate of profit in the economy is 5 percent. This firm is earning $5.50 on every $50 invested by its founders. 1. What is its percentage rate of return? 2. Is the firm earning an economic profit? If so, how large? 3. Will this industry see entry or exit? What will be the rate of return earned by firms in this industry once the industry reaches long-run equilibrium?

3 QOD #23: Share the Wealth Solution The percentage rate of return for this firm is 11%. It is earning an economic profit of 6%. This industry will see entry by competitive firms, which will reduce the rate of return earned in this industry to the same 5% return earned by other industries in the economy.

4 LO1 9-4 The Long Run in Pure Competition In the long run Firms can expand or contract capacity Firms enter and exit the industry

5 LO2 9-5 Profit Maximization in the Long Run Easy entry and exit The only long-run adjustment we consider Identical costs All firms in the industry have identical costs Constant-cost industry Entry and exit do not affect resource priceseach firm insignificant to the industry. For example, the exit of a farmer is hardly noticed. OR, the industry USES very little of the total resources.

6 LO3 9-6 Long-Run Equilibrium Entry eliminates profits Firms enter Supply increases Price falls Profits lost, end back at l-r equil. Exit eliminates losses Firms exit Supply decreases Price rises End back at l-r equil.

7 LO3 9-7 Entry Eliminates Economic Profits P P MC S 1 $60 ATC $60 S MR D 2 D ,000 90, ,000 (a) Single Firm q (b) Industry Q

8 LO3 9-8 Exit Eliminates Losses P P MC S 3 $60 ATC $60 S MR D 1 D 3 0 q ,000 90, ,000 (a) Single Firm (b) Industry Q

9 LO4 9-9 Long Run Supply Constant cost industry Entry/exit does not affect LR ATC Constant resource price Special case Increasing cost industry Most industries-when firms enter and purchase resources, resource prices rise on ALL firms, so ATC shifts upward. LR ATC increases with expansion Specialized resources Decreasing cost industry-an example would be computersmore companies caused a SIGNIFICANT increase in resources (components). Decreased production costs reduced ATC and the prices of computers declined.

10 LO LR Supply: Constant-Cost Industry P P 1 P 2 $50 Z 3 Z 1 Z 2 S P 3 D 3 D 1 D 2 0 Q 3 Q 1 Q 2 Q 90, , ,000

11 LO LR Supply: Increasing-Cost Industry P P 2 P 1 P 3 $55 $50 $40 Y 1 Y 2 S Y 3 D 2 D 3 D 1 0 Q 3 Q 1 Q 2 Q 90, , ,000

12 LO LR Supply: Decreasing-Cost Industry P P 3 $55 X 3 P 1 $50 X 1 P 2 $40 X 2 S D 3 D 1 D 2 0 Q 3 Q 1 Q 2 Q 90, , ,000

13 LO Pure Competition and Efficiency In the long run, efficiency is achieved Productive efficiency Producing where P = min. ATC Producing in the least costly way Allocative efficiency Producing where P = MC Producing the quantity society most wants mb=mc at equilibrium

14 LO5 Price Price 9-14 Pure Competition and Efficiency Single Firm Market P=MC=Minimum ATC (Normal Profit) MC ATC Consumer Surplus S P MR P Producer Surplus D 0 0 Q f Quantity Q e Quantity

15 LO Dynamic Adjustments Purely competitive markets will automatically adjust to Changes in consumer tastes People want cucumbers so demand rises and p>mc. Efficiency will be lost, but new firms will enter the industry to profit. ALSO, resources will be pulled away from watermelons to produce the increased supply of cucumbers. Resource supplies-when prices change, firms will have to figure out how to produce where mr=mc. Technology-new means lower prod. costs (lower atc) Recall the Invisible Hand -for private goods with no externalities.

16 LO Technological Advance: Competition Entrepreneurs would like to increase profits beyond just a normal profit Decrease costs by innovating New product development

17 LO Creative Destruction Competition and innovation may lead to creative destruction Creation of new products and methods destroys the old products and methods

18 9-18 Efficiency Gains from Entry Patent protected prescription drugs earn substantial economic profits for the pharmaceutical company Generic drugs become available as the patent expires on the existing drug Results in a 30-40% reduction price Greater consumer surplus and efficiency

19 9-19 Efficiency Gains from Entry P 1 a b c S P 2 d f D Q 1 Q 2