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Firms in Competitive Markets

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Presentation on theme: "Firms in Competitive Markets"— Presentation transcript:

1 Firms in Competitive Markets
Chapter 14

2 Competitive Market Lots of buyers and sellers dealing in identical goods. Sellers can freely enter or leave.

3 Firms in a competitive market …
… are price takers. They take the price as given because nothing they do can affect it. For a firm in a competitive market, the price is the marginal revenue.

4 Profit maximization assumption
Firms act to maximize profit (Π ). Profit = total revenue – total cost = PQ – FC – VC

5 Profit maximization example
Q TR TC Π MR MC ΔΠ 3 (3) 6 1 5 2 4 12 8 18 24 17 7 30 23 36 (1) 42 38 (2) 48 47 9

6 Rule for profit maximization
If MC is rising, produce up to the point at which MC = MR.

7 Figure 1 Profit Maximization for a Competitive Firm
Costs The firm maximizes profit by producing the quantity at which marginal cost equals marginal revenue. and Revenue MC MC 2 Q ATC P = MR 1 2 AR Q MAX AVC MC 1 Q Quantity Copyright © South-Western

8 Figure 2 Marginal Cost as the Competitive Firm’s Supply Curve
Price This section of the firm’s MC curve is also the firm’s supply curve. MC P 2 Q ATC P 1 Q AVC Quantity Copyright © South-Western

9 Figure 3 The Competitive Firm’s Short Run Supply Curve
Costs Firm s short-run supply curve If P > ATC, the firm will continue to produce at a profit. MC ATC If P > AVC, firm will continue to produce in the short run. AVC Firm shuts down if P < AVC Quantity Copyright © South-Western

10 Shutdown vs. Exit A shutdown refers to a short-run decision not to produce anything during a specific period of time. Exit refers to a long-run decision to leave the market.

11 Figure 4 The Competitive Firm’s Long-Run Supply Curve
Costs Firm s long-run supply curve MC = long-run S Firm enters if P > ATC ATC Firm exits if P < ATC Quantity Copyright © South-Western

12 Figure 5 Profit as the Area between Price and Average Total Cost
(a) A Firm with Profits Price ATC MC Profit ATC Q P P = AR MR Quantity (profit-maximizing quantity) Copyright © South-Western

13 Figure 5 Profit as the Area between Price and Average Total Cost
(b) A Firm with Losses Price MC ATC ATC Q Loss P = AR MR Quantity (loss-minimizing quantity) Copyright © South-Western

14 Figure 6 Market Supply with a Fixed Number of Firms
(a) Individual Firm Supply (b) Market Supply Price Price MC Supply $2.00 200 $2.00 200,000 1.00 100 1.00 100,000 Quantity (firm) Quantity (market) Copyright © South-Western

15 Figure 7 Market Supply with Entry and Exit
(a) Firm s Zero-Profit Condition (b) Market Supply Price Price MC ATC P = minimum ATC Supply Quantity (firm) Quantity (market) Copyright © South-Western

16 Figure 8 An Increase in Demand in the Short Run and Long Run
(a) Initial Condition Firm Market Price Price ATC MC S Short-run supply, 1 D Demand, 1 1 Q A P 1 Long-run supply P 1 Quantity (firm) Quantity (market)

17 Figure 8 An Increase in Demand in the Short Run and Long Run
(b) Short-Run Response Firm Market Price Price D 2 ATC MC Profit S 1 Q 2 P B P 2 D 1 Q 1 A P 1 P Long-run 1 supply Quantity (firm) Quantity (market) Copyright © South-Western

18 Figure 8 An Increase in Demand in the Short Run and Long Run
(c) Long-Run Response Firm Market Price Price D 2 S MC ATC 1 S 2 B P 2 A Q 3 C P 1 P Long-run 1 supply D 1 Quantity (firm) Q Q Quantity (market) 1 2 Copyright © South-Western


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