Cost Curves To Master

Pure Competiton

Monopoly

Oligopoly

Monopolistic Competition

$24

20

16

12

8

4

0 10 20 30 40 50Rate of Output (pairs per day)

Cos

ts (

dolla

rs p

er p

air)

I

J

KL M N

O

ATC

AVC

AFC

Average Costs

Marginal Cost

$35

30

25

20

15

10

5

10 20 30 40 50

pq

r

s t

u

v

Added output is increasingly expensive

Rate of Output (pairs per day)

Basic Cost Curves$32

28

24

20

16

12

8

4

0 1 2 3 4 5 6 7 8

Cos

t (do

llars

per

uni

t)

Rate of Output (units per time period)9

ATC

n

mAVC

AFC

MC

Initial Equilibrium in the Computer Market

1200

1000

800

600

400

200

0 200 400 600 800 1000

Market price

Profits

mD Average

total cost

P = MR

Quantity

C

PR

ICE

OR

CO

ST

The typical firm

$1200

1000

800

600

400

200

0 20 40 60 80

Market demand

Market equilibrium

Market supply

Quantity (thousands)

Pri

ce (

per

com

put

er)

The computer industry

500 6000

800

$1000

Price

or C

ost (

per c

ompu

ter)

Quantity (computers per month)

0 20,000

$1000

800

Quantity (computers per month)

Price

(per

com

pute

r)

The Competitive Price and Profit Squeeze

Profits

S1S2

Market demand

An expanded market supply . . .

MCOld price

G

Hm

ATC

Lowers price and profits for the typical firm

Newprice

Short- vs. Long-Run Equilibrium

MCATC

pS

qS

Pric

e or

Cos

t

Quantity

Short-run equilibrium (p = MC)

pS

Pric

e or

Cos

t

pL

qLQuantity

MCATC

Long-run equilibrium (p = MC = ATC)

Profit Maximization

0 1 2 3 4 5 6 7 8 9

123456789

10111213

$14

Pric

e or

Cos

t (pe

r b

aske

t)

Quantity (baskets per hour)

d

Demand

Marginal revenue

Marginal cost

Average total cost

D

Profits

Monopoly Profits: The Typical Universal Plant

M

$1200

1000

800

600

400

200

0

Pri

ce (

per

com

put

er)

Quantity (computers per month)200 400 600 800 1000 1200 1400

W

K B

Average total cost

Marginal cost

Demand curve facing single plant

Marginal revenue of single plant

C

Profit

1000P

RIC

E (

per

com

pute

r)

QUANTITY DEMANDED (computers per month)0

The Kinked Demand Curve Confronting an Oligopolist

Demand curve facing oligopolist if rivals match price changes

Demand curvefacing oligopolist ifrivals don't matchprice changes

Demand curve facing oligopolist if rivals match price cuts but not price hikes

MA

CD

B$1100

900

8000

Pri

ce o

r C

ost (

doll

ars

per

unit

)

Quantity (units per period)0

Maximizing Oligopoly Profits

Industrymarginal

cost

Industry

average cost

Marketdemand

Industry marginalrevenue

Profits

J

Profit-maximizing

price

Average costat profit-

maximizingoutput

Profit-maximizing output

Output / Time

Price

Output / Time

Price

Price Taker’s Demand Curve

MarketSupply

MarketDemand

P

• The market forces of supply and demand determine price.

PDemand forSingle Firm

• Price takers have no control over the price that they may charge in the market. If such a firm was to offer their good/service at a price above that established by the market they would buy elsewhere.

Individual firms musttake the market price.

Price is determinedin the market.

• In the short run, the price taker will expand output until marginal revenue (price) is just equal to marginal cost.

• When P > MC then the firm can make more on the next unit sold than it costs to increase output for that unit. In order for the firm to maximize its profits it increases output until MC = P.

Profit Maximization when the Firm is a Price Taker

• This will maximize the firm’s profits (rectangle BACP).

d (P = MR)

Price

Output/ Time0 q

ATC

MC

• When P < MC then the firm made less on the last unit sold than it cost for that unit. In order for the firm to maximize its profits it decreases output until MC = P.

Profit

p = MC

AC

PB

P > MC

Increase qP < MC

decrease q

Where is pure profit? Normal Profit?

• Given Pe, firm produces qe where MC = MR

If AC = AC1, break-even

• If AC = AC2, losses

• If AC = AC3, economic profit

Economies of Scale

QM0C

OS

T (

doll

ars

per

unit

)Constant returns to scale

c

ATC1

m1

RATE OF OUTPUT (units

per period)

ATCS

QM0

Economies of scale

c

ATC2

m2

ATCS

RATE OF OUTPUT (units

per period)

QM0

Diseconomies of scale

c

ATC3

m3ATCS

RATE OF OUTPUT (units

per period)

Profit Maximization and Loss Minimization

for the Perfectly Competitive Firm:

Three Cases I

In Case 1, TR TC and the firm earns profits.

It continues to produce in the short run.

In Case 2, TR < TC and the firm takes a loss.

It shuts down in the short run because it minimizes its losses by doing so; it is better to lose $400 in fixed costs than to take a loss of $450.

Profit Maximization and Loss Minimization for the Perfectly Competitive Firm: Three Cases II

In Case 3, TR < TC and the firm takes a loss.

It continues to produce in the short run because it minimizes its losses by doing so; it is better to lose $80 by producing than to lose $400 in fixed costs by not producing.

Profit Maximization and Loss Minimization for the Perfectly Competitive Firm: Three Cases III

Q

D

MC

ATC

P

Q1

Economic profits withprice discrimination

Q2

MR=D