microeconomics chapter 22: firm supply

7/25/2019 Microeconomics Chapter 22: Firm Supply

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Chapter Twenty-Two

Firm Supply


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Firm Supply

How does a firm decide how muchproduct to supply? This dependsupon the firms

technology

market environment

goals

competitors behaviors


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Market Environments

Are there many other firms, or ust afew?

!o other firms decisions affect our

firms payoffs?

"s trading anonymous, in a market?#r are trades arranged with separate

buyers by middlemen?


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Market Environments

$onopoly% &ust one seller thatdetermines the 'uantity supplied andthe market(clearing price)

#ligopoly% A few firms, the decisionsof each influencing the payoffs of theothers)


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Market Environments

!ominant Firm% $any firms, but onemuch larger than the rest) The largefirms decisions affect the payoffs of

each small firm) !ecisions by anyone small firm do not noticeablyaffect the payoffs of any other firm)


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Market Environments

$onopolistic *ompetition% $anyfirms each making a slightly differentproduct) +ach firms output level is

small relative to the total)ure *ompetition% $any firms, all

making the same product) +ach

firms output level is small relative tothe total)


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Market Environments

-ater chapters e.amine monopoly,oligopoly, and the dominant firm)

This chapter e.plores only pure

competition)


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Pure Competition

A firm in a perfectly competitivemarket knows it has no influenceover the market price for its product)

The firm is a marketprice(taker)The firm is free to vary its own price)


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Pure Competition

"f the firm sets its own price above themarket price then the 'uantitydemanded from the firm is /ero)

"f the firm sets its own price below themarket price then the 'uantitydemanded from the firm is the entire

market 'uantity(demanded)


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Pure Competition

So what is the demand curve facedby the individual firm?


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Pure Competition

0

12output unit

$arket Supply

$arket !emand

pe


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Pure Competition

y

12output unit

$arket Supply

pe

p

At a price of p, /ero isdemanded from the firm)

$arket !emand


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Pure Competition

y

12output unit

$arket Supply

pe

p

p3

At a price of p3 the firm faces the entiremarket demand)


$arket !emand


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Pure Competition

So the demand curve faced by theindividual firm is )))


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Pure Competition

y

12output unit

$arket Supply

pe

p

p3

At a price of p3 the firm faces the entiremarket demand)


$arket !emand


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Pure Competition

0

12output unit

pe

p

p3

$arket !emand


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Smallness

4hat does it mean to say that anindividual firm is 5small relative tothe industry3?


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Smallness12output unit

y

Firms $*

The individual firms technology causes it

always to supply only a small part of thetotal 'uantity demanded at the market price)

Firms demand curve

pe


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The Firms Short-Run Supply Decision

+ach firm is a profit(ma.imi/er and ina short(run)

6% How does each firm choose its

output level?


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+ach firm is a profit(ma.imi/er and ina short(run)

6% How does each firm choose its

output level?A% 7y solving

max ( ) ( ).y s s

y py c y

=

0


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max ( ) ( ).y s sy py c y

=

0

4hat can the solution ys8 look like?


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=

0

4hat can the solution ys8 look like?

9a: ys8 ;


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=

0

4hat can the solution y8 look like?

9b: ys8 =


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For the interior case of ys8 ;


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For the interior case of ys8 ;

0

So at a profit ma.imum with ys8 ;


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12output unit

y

pe

ys8y

$*s9y:


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12output unit

y

pe

ys8y

At y = ys8, p = $* and $*slopes upwards) y = ys8 is

profit(ma.imi/ing)

$*s9y:


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12output unit

y

pe

ys8y


profit(ma.imi/ing)

At y = y, p = $* and $* slopes downwards)

y = y is profit(minimi/ing)

$*s9y:


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12output unit

y

pe

y


profit(ma.imi/ing)

So a profit(ma.) supply level can lie only on the upwards sloping part of the firms $* curve)

$*s9y:

ys8


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7ut not every point on the upward(sloping part of the firms $* curverepresents a profit(ma.imum)


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7ut not every point on the upward(sloping part of the firms $* curverepresents a profit(ma.imum)

The firms profit function is

"f the firm chooses y = < then its

profit is

s s vy py c y py F c y( ) ( ) ( ). =

s vy F c F( ) ( ) . =0 0


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So the firm will choose an outputlevel y ; < only if

s vy py F c y F( ) ( ) .


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So the firm will choose an outputlevel y ; < only if

")e), only if

+'uivalently, only if

s vy py F c y F( ) ( ) .

py c yv ( ) 0

p c yy

AVC yv s=( ) ( ).


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A>*s9y:

A*s9y:

$*s9y:

12output unit

y


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A>*s9y:

A*s9y:

$*s9y:

12output unit

y


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A>*s9y:

A*s9y:

$*s9y:

12output unit

y

p A>*s9y:


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A>*s9y:

A*s9y:

$*s9y:

p A>*s9y: ys8 ;


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A>*s9y:

A*s9y:

$*s9y:

p A>*s9y: ys8 = *s9y: ys8 ;


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A>*s9y:

A*s9y:

$*s9y:

p A>*s9y: ys8 = *s9y: ys8 ;


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A>*s9y:

A*s9y:

$*s9y:

The firms short(runsupply curve

Shutdown point

12output unit

y


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Shut(down is not the same as e.it)Shutting(down means producing no

output 9but the firm is still in the

industry and suffers its fi.ed cost:)+.iting means leaving the industry,

which the firm can do only in the

long(run)


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The Firms Lon-Run Supply Decision

The long(run is the circumstance inwhich the firm can choose amongstall of its short(run circumstances)

How does the firms long(run supplydecision compare to its short(runsupply decisions?


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A competitive firms long(run profitfunction is

The long(run cost c9y: of producing yunits of output consists only ofvariable costs since all inputs are

variable in the long(run)

( ) ( ).y py c y


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The firms long(run supply leveldecision is to

The st and @nd(order ma.imi/ationconditions are, for y8 ;

( )( )

.0


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Additionally, the firms economicprofit level must not be negativesince then the firm would e.it the

industry) So,( ) ( )

( )( ).

y py c y

p c y

yAC y

=

=

0


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$*9y:

A*9y:

y

12output unit


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$*9y:

A*9y:

y

12output unit

p ; A*9y:


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$*9y:

A*9y:

y

12output unit

p ; A*9y:


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$*9y:

A*9y:

y

12output unit

The firms long(runsupply curve


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How is the firms long(run supplycurve related to all of its short(runsupply curves?

The Firms Lon ! Short-Run Supply


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The Firm s Lon ! Short Run Supply

Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p

ys8 y8

ys8 is profit(ma.imi/ing in this short(run)



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p

ys8 y8


s



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p

ys8 y8

The firm can increase profit by increasing

.@and producing y8 output units)

s



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p3

ys8

ys8 is loss(minimi/ing in this short(run)



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p3

ys8

ys8 is loss(minimi/ing in this short(run)

-oss



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Decisions

$*9y:

A*9y:

y

12output unit

A*s9y:

$*s9y:

p3

ys8

This loss can be eliminated in the long(

run by the firm e.iting the industry)

-oss



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Decisions

$*9y:

A*9y:

y

12output unit



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Decisions

$*9y:

A*9y:

y

12output unit

p

ys8




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Decisions

$*9y:

A*9y:

y

12output unit

p

ys8


s



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Decisions

$*9y:

A*9y:

y

12output unit

p

ys8


y8 is profit(ma.imi/ing in the long(run)

y8



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e s o ! S o u Supp y

Decisions

$*9y:

A*9y:

y

12output unit

p

ys8


y8 is profit(ma.imi/ing in the long(run)

y8



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pp y

Decisions

$*9y:

A*9y:

y

12output unit

p

ys8y8

s

The firm can increase profit by reducing

.@and producing y8 units of output)



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pp y

Decisions

$*9y:

A*9y:

y

12output unit



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pp y

Decisions

$*9y:

A*9y:

y

12output unit



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pp y

Decisions

$*9y:

A*9y:

y

12output unit



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pp y

Decisions

$*9y:

A*9y:

y

12output unit

Short(run supply curves

-ong(run supply curve

P " S l R i it "


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Pro"ucers Surplus Revisite"

The firms producers surplus is theaccumulation, unit by e.tra unit ofoutput, of e.tra revenue less e.tra

production cost)How is producers surplus related

profit?

P " S l R i it "


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y

12output unit

A>*s9y:

A*s9y:

$*s9y:



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

y89p:



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Pro"ucer s Surplus Revisite"

y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

S

y89p:



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So the firms producers surplus is

PS p p MC z d z

py p MC z d z

py p c y p

s

y p

s

y p

v

( ) ( ) ( )

* ( ) ( ) ( )

* ( ) * ( ) .

*( )

*( )

=

=

=

0

0

That is, S = evenue ( >ariable *ost)



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

S

y89p:



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

y89p:

c y p MC z d zv s

y p

( * ( )) ( ) ( )*( )

=

0



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

y89p:

evenue= py89p:



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

y89p:

evenue= py89p:

cv9y89p::



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y

12output unit

A>*s9y:

A*s9y:

$*s9y:

p

S

y89p:



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S = evenue ( >ariable *ost)rofit = evenue ( Total *ost

= evenue ( Fi.ed *ost

( >ariable *ost)So, S = rofit B Fi.ed *ost)

#nly if fi.ed cost is /ero 9the long(

run: are S and profit the same)

microeconomics chapter 22: firm supply

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