Perfect Competition Continued…

Key Graph (Figure 9-6)

• P1 – Company should not operate at all• P2 – Operate at Q2 to cover variable costs,

fixed costs will be lost. Shut-Down Point• P3 – To minimize losses, operate at Q3. It is

above AVC.• P4 – The Break Even Point. Q4• P4+ Anything above P4 = higher profits.

Marginal Cost Curves and Supply

• In Figure 9-7 (230) note the similarity between the MC curve and the S curve.

• How much we supply (Q) is directly related to how much it costs to make the product (MC), and how much we are paid to produce it (P).

• Many factors that cause supply to shift cause MC to shift.

Market Shifts

• Since we utilize Marginal Revenue = Marginal Cost to find our profit maximizing point, drops in demand hurt profits. Note similarity between MR and D.

• Businesses have to pay close attention to demand, otherwise they might be producing too much or too little, which hurts business.

• Figure 9-7 (What would happen if D declines?)

Key Question 4 (243)

Long-Run Profit Maximization

• In the long-run firms can adjust their plant capacities or enter or leave the industry.

• After all long-run adjustments are made the Price = Minimum ATC.

• Previously, in the short-run, they would still operate at Minimum AVC, why?

Why does P = Min. ATC?

• Firms seek profits and avoid losses. If they do not make money, they leave the industry.

• Firms leaving the industry reduces supply, which increases price for firms that remain.

• If an industry is profitable, new firms join, this increases supply and reduces price back to Min. ATC... Or lower. Which starts the cycle again.

Long-Run Equilibrium

• Long-Run Equilibrium in the Perfectly Competitive industry is created by businesses seeking higher profits or reduced losses.

• Over-time, supply and demand oscillate back and forth around the equilibrium point.

• Figures 9-8 and 9-9 (232-233)

Costs and the Slope of Supply

• If costs are constant, firms entering or leaving the industry do not affect resource prices, supply is perfectly elastic. Fig 9-10

• Most industries have increasing costs, which means that firms entering the industry increase resource costs for the others. Fig 9-11

• Higher costs shift the ATC upwards.• Some industries have decreasing costs.

Pure Competition and Efficiency

• Productive and Allocative Efficiency lead to the most efficient use of scarce resources.

• Productive Efficiency: P = Minimum ATC• In the Long-Run firms must produce at the

minimum ATC because new firms are coming and going.

• Productive Efficiency MUST be achieved in perfect competition or you will not survive.

• This is called the low-cost producer.

Allocative Efficiency and Perfect Competition.

• The Price of any product is society’s measure of the relative worth of an additional unit.

• The long-run price = the marginal benefit• The long-run price = the marginal cost

(otherwise we would not sacrifice the resources)

• Under allocation: P > MC• Over allocation: P < MC

The Commodities Exchange

The Commodities Exchange

• The pre-eminent example of perfect competition in practice on a daily basis is the Chicago Board of Trade.

• It facilitates the purchase and sale of a multitude of commoditized or standardized goods, such as wheat, barley, sugar, cotton et cetera.

• http://www.cmegroup.com/company/cbot.html

Market Structure Summary Videos

• It helps to watch these prior to completing the chapter assignment for Perfect Competition.

• The Market Structures• Perfect Competition Summarized

Assignment # 12

• Questions 5, 7, and 8 on page 244.