econ chapter 12

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Chapter 12

PERFECT COMPETITION

Perfect competition :

many firms

many buyers

identical products

no restrictions on entry

no advantage for the established

(nothing unique, consumers don't care which firm they buy from)

perfect competition will arise if the minimum efficient scale of a single producer is small compared to it's market demand.

Minimum Efficient Scale_ the smallest output at which the long-run average costs reach the lowest possible level.

Price taker_ firms that are in perfect competition. they cannot influence the market price. THE MARKET PRICE IS THE PRICE AT WHICH THEY DO BUSINESS.

A FIRM'S GOAL IS TO MAXIMIZE PROFIT:

max profit is equal to total revenue minus total cost

(TR - TC)

TOTAL COST:

The opportunity costs of production

....includes normal profit

TOTAL REVENUE :

= price of output, multiplied by quantity sold

(price X quantity)

MARGINAL REVENUE

the change in total revenue

resulting from just 1 more item sold.

Change in total revenue divided by change in quantity sold

* market demand curve D

& market supply curve S,

....determine Market Price*

* a total revenue curve shows the relationship between..

total revenue

quantity sold

for example: where the supply curve line and the demand curve line intersect, (say a quantity of 9, and a price point of $25) you would multiply quantity (9) times price (25) to equal marginal revenue, which would give you 225

Demand, Price, and Revenue in PERFECT COMPETITION

horizontal demand curve

shows a perfectly elastic demand.

elasticity_ measure of the sensitivity to change

businesses want something that is INELASTIC because if something is inelastic, people will be willing to pay any price for it because it has no substitutes

ex of inelastic goods: gas, cigarettes

a firm's cost curves:

- total cost

-average cost

-marginal cost

-----all describe the relationship between outputs and costs

from the firm's cost & revenue curves you can find which output maximizes the firm's profit

econmonic profit = TR-TC

For a BREAK EVEN POINT: find the quanitity where TOTAL REVENUE and TOTAL COST are equal.

break even point is also called the point at which there is no economic profit

THE MARGINAL ANALYSIS:

Compares MR with MC

scenarios:

When quantity (output) increases, the firm's MR will stay constant, but their MC will eventually increase

if MR > MC, this means the revenue from selling just 1 more unit, exceeds the cost of producing it. therefore, you would have an increase in economic profit from the extra quantity (output)

if MR

when MR = MC, the economic profit is maximized.

Temporary Shutdown Decision

-a firm expects a loss to be temorary they can either shutdown, keep producing as normal, or just stop producing output

a firm's economic loss will equal its TOTAL FIXED COST (TFC) plus AVERAGE VARIABLE COST (AVC) minus PRICE (P) multiplied by QUANTITY (Q)

ECONOMIC LOSS = TFC +(AVC- P) x Q.

when the firm shuts down, it has no variable costs or revenue, but it will still have TOTAL FIXED COSTS

So, their loss must equal TFC

If they stay open, they will incur variable costs, BUT they will also receive revenue

so in this case, their loss must equal TFC +TVC - TR

If AVC is greater than price, then the loss will exceed the TFC, and the firm should shutdown

a firm's shutdown point:

the price and quantity between producing and shutting down

occurs at the point where price and quantity at which AVC is at a minimum

if the price falls below AVC, the firm shutdown

the Marginal Cost (MC) curve intersects the AVC curve at its minimum

a perfectly ompetetive firm;s supply curve shows how its profit - maximizing output varies as the market price varies

the supply curve is derived from the firm's marginal cost curve and average variable cost curves

when price exceeds minimum average variable cost

the firm maximizes profit by producing the quantity where MC = P

It moves up along its marginal cost curve

when price is less than minimum average variable cost