Competitive Markets
Frontline Source: Frontline, Reproduced with permission
3 (c) , I.P.L. Png & D.E. Lehman Oil tanker market, 2005 Impact of Increasing oil prices Increasing China imports More stringent tanker standards
4 (c) , I.P.L. Png & D.E. Lehman Outline perfect competition market equilibrium supply shift demand shift adjustment time
5 (c) , I.P.L. Png & D.E. Lehman Perfect competition homogeneous product many buyers many sellers free entry and exit equal information
6 (c) , I.P.L. Png & D.E. Lehman Perfect competition In market where products are differentiated, competition is not as keen as that in a market where products are homogeneous. Compare mineral water – differentiated gold – pure commodity
7 (c) , I.P.L. Png & D.E. Lehman Perfect competition Many small buyers Many small sellers buyer/seller with market power can influence demand/supply
8 (c) , I.P.L. Png & D.E. Lehman Perfect competition Free entry and exit No entry barriers to potential competitors No exit barriers to existing sellers
9 (c) , I.P.L. Png & D.E. Lehman Perfect competition Market with differences in information not as competitive as one where all buyers and sellers have equal information Compare photocopying service medical treatment legal advice
10 (c) , I.P.L. Png & D.E. Lehman Outline perfect competition market equilibrium supply shift demand shift adjustment time
11 (c) , I.P.L. Png & D.E. Lehman Market equilibrium Definition: Price at which quantity demanded equals quantity supplied When market out of equilibrium, market forces push price towards equilibrium
Market equilibrium
13 (c) , I.P.L. Png & D.E. Lehman Market equilibrium Excess supply = excess of quantity supplied over quantity demanded triggers price decrease Excess demand = excess of quantity demanded over quantity supplied triggers price increase
14 (c) , I.P.L. Png & D.E. Lehman Outline perfect competition market equilibrium supply shift demand shift adjustment time
15 (c) , I.P.L. Png & D.E. Lehman Supply shift Supply shifts down (right) new equilibrium with lower price and larger quantity Supply shifts up (left) new equilibrium with higher price and smaller quantity New equilibrium depends on elasticities of demand and supply
Supply shift
Supply shift: Price elasticities of demand and supply
18 (c) , I.P.L. Png & D.E. Lehman Supply shift: Price impact Price change no more than dollar amount of the supply shift Price change smaller if demand is more elastic than supply larger if supply is more elastic than demand
Foie gras vis-à- vis butter If Euro becomes 10% more expensive, compare effect on prices of foie gras French butter
Promoting retail sales Wholesale price cut Consumer coupons
21 (c) , I.P.L. Png & D.E. Lehman Outline perfect competition market equilibrium supply shift demand shift adjustment time
22 (c) , I.P.L. Png & D.E. Lehman Demand shift Demand shifts down (right) new equilibrium with lower price and lower quantity Demand shifts up (left) new equilibrium with higher price and larger quantity New equilibrium depends on elasticities of demand and supply
Demand shift
24 (c) , I.P.L. Png & D.E. Lehman Tanker services, 2005 Increasing oil prices Higher costs for tanker services supply curve up Increasing China imports Higher demand for tanker services More stringent tanker standards Non-complying tankers scrapped supply curve shifted to left
25 (c) , I.P.L. Png & D.E. Lehman Valentine’s Day Nearing Valentine’s Day, price of roses always rises much more than the price of greeting cards. Why?
26 (c) , I.P.L. Png & D.E. Lehman Outline perfect competition market equilibrium supply shift demand shift adjustment time
Market and individual equilibrium
28 (c) , I.P.L. Png & D.E. Lehman Adjustment time Short run demand + supply short run equilibrium Long run demand + supply long run equilibrium
Demand increase: Short-run market equilibrium
Demand increase: Long-run market equilibrium
Demand increase
Demand reduction
33 (c) , I.P.L. Png & D.E. Lehman Short vis-à-vis long-run impact If demand/supply shifts, Market price is more volatile in the short run than long run Market quantity is more flexible over the long run than short run
34 (c) , I.P.L. Png & D.E. Lehman Summary perfect competition market equilibrium supply shift demand shift adjustment time
35 (c) , I.P.L. Png & D.E. Lehman Numerical example Suppose Demand equation is D=30-0.1p Supply equation is S=4+0.05p-f Question: what is the market equilibrium price and quantity?
36 (c) , I.P.L. Png & D.E. Lehman Answer: In equilibrium, D=S Therefore, p=4+0.05p-f If f=4 Then p=200 So, D=S=30-0.1*200=10
37 (c) , I.P.L. Png & D.E. Lehman How about supply shift? S=4+0.05p-f If there is a decline in the input price, so f drops from 4 to 3.40 Then S= Question: what is the new equilibrium price and quantity? D=S p= p Therefore, p=196, S=D=10.4