Download Chapter 8 Perfect Competition

Chapter 8 Perfect Competition
Review Questions
2.
Many markets are reasonably close to perfect competition, and by using the model of
perfect competition, we can make valuable predictions about those markets. Perfect
competition approximates and gives accurate enough predictions in a variety of markets.
4.
The demand curve facing a perfectly competitive firm is infinitely elastic since a
perfectly competitive firm is a price taker. If such a firm increases its price above the
going market price, it would lose all of its customers; it won’t lower its price below the
market price because it never has to (it can sell all the output it wants without lowering its
price).
6.
Comparing price and ATC tells us the firm’s profit per unit, which can then be multiplied
by the number of units to obtain total profit. But the firm’s goal is to maximize total
profit, not profit per unit; looking at price and ATC doesn’t tell us what level of output
maximizes total profit. For this, we need to look at price and marginal cost.
8.
a. Uncertain. When price exceeds minimum AVC, the firm will not shut down, but its
profit could be positive (if P > ATC > AVC) or negative (if AVC < P < ATC).
b. False. A competitive firm’s supply curve coincides with the marginal cost curve for
all prices above the minimum point on the AVC curve. For all prices below the
minimum point on the AVC curve, the supply curve is vertical at zero units of output.
10.
False. Output increases in the long run as more firms enter the market. If the firms are
entering a constant cost industry or a decreasing cost industry, the price will not increase.
Problems and Exercises
2.
Q
TVC
0
$0
MC
6
1
3
TR
Economic
Profit
$6
$6
$0
–$6
6
12
5
–7
6
17
10
–7
6
21
15
–6
5
15
4
TC
5
11
4
TFC
5
6
5
2
MR
5
(Continues)
Q
TVC
4
18
MC
4
5
28
TFC
TC
TR
Economic
Profit
6
24
20
–4
6
28
25
–3
6
34
30
–4
5
22
6
6
MR
5
a. Set MR equal to MC when MC is rising to find Q* = 5 (assuming that only discrete
units of output can be produced). The firm will not produce a 6th unit of output since
the marginal cost of the 6th unit exceeds the marginal revenue from the sale of the 6th
unit.
b. Since the firm’s TC always exceeds its TR, its goal becomes to minimize its
economic loss. This occurs at Q* = 5, where economic profit = –$3.
4.
a. The market equilibrium price—where quantity supplied equals quantity demanded—
is $2.00 per pound. Thus, each individual firm will face a price of $2.00, which is
also its marginal revenue. From the total cost column, we can calculate that marginal
cost is $1.00 per pound for increases from 60,000 to 61,000, and from 61,000 to
62,000. When output increases from 62,000 to 63,000, however, MC = $3.00. Since
MR > MC for increases in output up to 62,000, but MR < MC beyond 62,000, the
typical firm should produce 62,000 pounds.
b. At 62,000 pounds, ATC = TC/Q = $112,000/62,000 = $1.81. Since P > ATC, the
firm is earning a profit. Profit will attract entry, so this market is not in long-run
equilibrium.
c. The profit that the firm is earning will attract entry, so that the number of firms will
increase.
6.
Yes. In the short run, a higher price induces existing firms to produce more output, while
in the long run, a higher price also induces entry.
8.
In this situation, the technological advance shifts each firm’s ATC downward, leading to
a temporary burst of profit. The profit will attract entry, shifting the market supply curve
rightward. The new equilibrium will occur at point B, where there is a lower equilibrium
price. The only difference between this situation and the one described in the Using the
Theory section of this chapter is that the equilibrium quantity does not change when the
market demand curve is inelastic.
10. a.
Output
0
Price
$50
Total
Revenue
$0
1
$50
$50
Marginal
Revenue
Total Cost
$5
$50
$50
$100
$50
$55
$150
$50
$45
$35
$90
$50
4
$10
$15
$50
3
$200
Profit
-$5
$35
$40
$50
2
Marginal
Cost
$60
$55
$145
$55
$65
This firm’s short run profit-maximizing quantity of output is 3, found by expanding
output as long as marginal revenue exceeds marginal cost. This firm will earn a profit
of $60.
b.
Output
0
Price
$50
Total
Revenue
$0
Marginal
Revenue
Total Cost
$10
$50
1
$50
$50
$50
$45
$100
$50
$60
$150
$50
$40
$35
$95
$50
4
$5
$15
$50
3
$200
$55
$55
$150
$50
$50
$65
The firm’s profit-maximizing quantity of output stays at 3 units, but its profit falls to
$55.
Profit
-$10
$35
$50
2
Marginal
Cost
c.
Output
0
Price
$50
Total
Revenue
$0
1
$50
$50
2
$50
$100
Marginal
Revenue
Total Cost
$5
$50
$150
4
$50
$200
-$10
$35
$95
$50
$50
$5
$55
$150
$50
$0
$75
$225
$50
-$25
$85
The firm’s profit-maximizing quantity of output falls to 2 units, and its profit falls to
$5.
Challenge Questions
2.
Profit
-$5
$55
$60
$50
3
Marginal
Cost
a. At point A in panel (a), the market is in long-run equilibrium. The typical firm in
panel (b) earns zero economic profit. If demand increases, market price rises.
Individual firms increase output and earn an economic profit. Profit attracts entry,
increasing market supply, while ATC does not change. When long-run equilibrium
is reestablished at point C in panel (c), price has returned to P1, and the typical firm
again earns zero economic profit.
b. Instead of being upward-sloping, the long-run market supply curve is a horizontal
line found by connecting points like A and C in panel (c). More output is offered at
point C, because, although each firm in the industry is producing the same quantity of
output as they were at price P1, there are now more firms in the industry.
4.
Banning a technology that is in common use in a competitive industry may increase ATC.
In panel (b), firms will earn an economic loss at output level q1. This economic loss will
lead to exit, shifting the supply curve in panel (a) from S1 to S2. As supply decreases, the
price rises until each firm is once again earning zero economic profit.
Economic Applications Exercises
2.
Price
MC
MR2
MR1
Quantity
As more and more farmers lose production due to weather-related circumstances, market
supply falls, raising the market price. Those farmers still in the market see their marginal
revenue increase.