EQUILIBRIUM & EFFICIENCY

EQUILIBRIUM & EFFICIENCY

1. PERFECTLY COMPETITIVE MARKET

   • No transaction costs, Large number of producers, Homogeneous goods
   • Perfect inforation
   • Both consumer and producers are price takers
   • Demand is the horizontal sum of the individual demand curves if customers
   • Supply is the horizontal sum of the individual supply curves
     • Sort run supplys is given by the sum of all the active firms
     • Long run supply is given by the sum of all the potential producers
       • Firms start producing at AC(min)
       • Firm's profit is zero on the long run
       • Under the free entry condition P*= QC(min), profits qre null and active firms produce at their ESofP
         • What happens after a positive demand shock?
           • In the short run
             • AC & MC do not change
             • In Equilibrium price, quantity increase
             • Profits > 0
           • In the long run
             • New firms enter the market
             • P moves back to the original level (ACmin) and quantity increases
         • What happens after a negative demand shock?
           • In the long run
             • Some of the existing firms exit the market
             • P moves back to the original level (ACmin) and quantity decreases
           • In the short run
             • AC & MC do not change
             • In Esr , price & quantity decrease
             • Profits < 0
       • R(Q)> C(Q) profits wre positive, if = prodits qre null, if < profits qre negqtive

2. Effects of a change in the fixed costs

   • Long run eq & fixed costs decrease
     • In the short run
       • AC moves down AC(min) and, therefore, the minimum efficient scale of production decrease. MC does not change and the number of firms is fixed, therefore, the equilibrium does not change. The active firms obtains positive profits
     • In the long run
       • New firms enter the market & The equilibrium changes: the price goes down and the quantity increases

3. Effects of change in the variable costs

   • Long run eq & variable costs decrease
     • Short run
       • Total costs and, therefore, AC decreases. AC shifts down – MC decreases. Both firm’s supply and market supply shifts down. The number of firms is fixed. The equilibrium changes: lower price and higher quantity. Active firms register positive profits
     • Long run
       • New firms enter the market – In the new long-run equilibrium: lower prices and higher quantity – Again, zero-profit condition

4. Aggregate surplus (total/social) = overall benefit from consumption – Total avoidable cost

   • Overall benefit from consumption = consumers’ willingness to pay for a certain quantity
   • Total avoidable costs = all production costs of a firm, excluding sunk costs