Perfect Competition in the Short-run

Transcription

1 Perfect Competition in the Short-run

2 Perfect Competition Monopolistic Competition Oligopoly Pure Monopoly Imperfect Competition Characteristics of Perfect Competition: Many sellers Homogenous/standardized products: each seller s product is identical to its competitors. Free entry and exit: no significant barriers prevent firms from entering or leaving the industry. Firms are price takers: individual firms must accept the market price and no individual firm has any influence on price.

3 Demand The individual firm will have a perfectly elastic demand since they must take the market price no matter what quantity they produce. Therefore, the firm s demand curve is a horizontal line at the market price. Perfect Competition Marginal Revenue the change in total revenue associated with a change in quantity. MR = ΔTR/Δ = P = MR = AR Since the price is constant, the increase in total revenue from producing 1 extra unit will equal the price. Therefore, P= MR = AR (average revenue)

4 Profit Maximization How much should a firm produce? The profit maximizing quantity of output can be determined by comparing marginal revenue and marginal cost. Marginal revenue(mr) the change in total revenue associated with a change in quantity. MR = ΔTR/Δ A firm maximizes profit when MR= (at = MR, there are no missed opportunities) Marginal cost() the change in total cost associated with a change in quantity. = ΔTC/Δ

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6 Perfect Competition The Industry The Firm S P P D=MR D 0 uantity =MR uantity

7 Perfect Competition The Industry The Firm S P P D=MR D 0 uantity uantity Total Revenue

8 Perfect Competition The Industry The Firm S P P D=MR D 0 uantity uantity Total Revenue Total Cost

9 Perfect Competition The Industry The Firm S P P D=MR D 0 uantity uantity Total Revenue Total Cost Profit

10 Perfect Competition The Industry The Firm S P P D=MR D 0 uantity uantity What happens to the industry price when demand for the good decreases?

11 Perfect Competition The Industry The Firm S P 0 P 1 P D=MR D 0 D uantity uantity What happens to the firm s output when price decreases?

12 Perfect Competition The Industry The Firm S P 0 P 1 P D=MR D 0 D uantity uantity Total Revenue

13 Perfect Competition The Industry The Firm S P 0 P 1 P D=MR D 0 D uantity uantity Total Revenue Total Cost

14 Perfect Competition The Industry The Firm S P 0 P 1 P D=MR D 0 D uantity uantity Total Revenue Total Cost Loss

15 How much should be produced? How much is total revenue? How much is total cost? Is there profit or loss? How much? P profit maximizing quantity of output $ Profit = $18 Total Cost=$45 Total Revenue =$ MR=D=AR=P

16 How much output should be produced? How much is total revenue? How much is total cost? Is there profit or loss? How much? Suppose the market demand falls. What happens to firm output when the price falls from $7 to $5? Cost and Revenue $ Loss =$7 Total Cost = $42 Total Revenue=$ MR=D=AR=P

17 Cost and Revenue $ ZERO/NORMAL ECONOMIC PROFITS P = Break-even point POSITIVE ECONOMIC PROFITS = P > NEGATIVE ECONOMIC PROFITS = P <

18 Should a firm shut down in the short-run if it has negative economic profits? Cost and Revenue $ Loss =$7 Total Cost = $42 Total Revenue=$ MR=D=AR=P

19 Fixed Costs Variable Costs Total Cost Total Revenue Profit/Loss $3 0 $3 0-3 $3 $3 $6 $4-2 $3 $3 $6 $2-4 When should a firm shut down? Shut Down Rule: When the TR < TVC (P<), the firm should minimize its losses by shutting down. the firm s economic loss will equal its total fixed costs. BUT if TR > TVC (P>), the firm should continue to produce in the short-run. If the firm continues to produce, it can cover its variable costs and at least some of its FC. In this case, the firm will still produce the output where MR=

20 Shut down Rule Explained. Firms fixed cost is $100, its min is $55. If market price is 50 which is less than min, the firm would loss $5 more by producing each unit. If the firm produces one unit, its total loss would be $5 plus $100 fixed cost. If the firm decides to shut down, its loss would be only $100 as the firm does not need to pay for the variable cost. Shut down would be the loss minimization strategy. If the market price is 60, the firm would lose $5 less by producing each unit. If the firm produces one unit, its total cost would be fixed cost less $5, which is $95. The firm is better off by producing, not shutting down. When the market price is higher than the minimum, MR and should be compared to find out the optimal level of output.

21 P<. They should shut down Producing nothing is cheaper than staying open. Cost and Revenue $ Fixed Costs=$10 TC=$35 TR=$ MR=D=AR=P

22 Cost and Revenue $ Minimum is the shut down point intersects at its lowest point. The price has to be above the min for the firm to produce in the SR.

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24 At any price at or above the shutdown price, the firm will produce so the SR supply curve IS the curve above the min.

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26 What if variable costs increase (ex: per-unit tax)? Cost and Revenue $ =Supply 2 1 =Supply 1 When increases, SUPPLY decrease

27 What if variable costs decrease (ex: subsidy)? Cost and Revenue $ =Supply 1 2 =Supply 2 When decreases, SUPPLY increases

28 Practice

29 #1 Should the firm produce? What output should the firm produce? What is TR at that output? What is TC? How much profit or loss? $20 Cost and Revenue MR=D=AR= P

30 #1 Should the firm produce? Yes What output should the firm produce? 10 What is TR at that output? What is TC? TR=$140 How much profit or loss? Profit=$40 TC=$100 $20 Cost and Revenue MR=D=AR= P

31 #2 Cost and Revenue What output should the firm produce? What is TR at MR= point? What is TC at MR= point? How much profit or loss? $ MR=D=AR=P 0 5 7

32 #2 Cost and Revenue What output should the firm produce? Zero Shutdown What is TR at MR= point? $45 ( below ) What is TC at MR= point? $55 How much profit or loss? Loss=Only Fixed Cost $5 $ MR=D=AR=P 0 5 7

33 #3 Cost and Revenue $ What output should the firm produce? What is TR at that output? What is TC? How much profit or loss? MR=D=AR=P 0 6 8

34 #3 Cost and Revenue $ What output should the firm produce? 6 What is TR at that output? $90 What is TC? $120 How much profit or loss? Loss= $30 MR=D=AR=P 0 6 8