Download The perfectly competitive firm`s supply curve is its Marginal cost

Perfectly Competitive Supply:
The Cost Side of the Market
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Buyers and Sellers
Buyers
“Should I buy another unit?”
Answer: If the marginal benefit exceeds
the marginal cost
Sellers
“Should I sell another unit?
Answer: If the marginal revenue exceeds
the marginal cost of making it
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Upward-Sloping Supply Curves
The Low-Hanging Fruit Principle
Suppliers first use the resources easiest-tofind
So, the price of the output must go up in
order to compensate for using harder-tofind resources
I.E., costs tend to rise when producers
expand production in the short-run
(some inputs are fixed in the short-run)
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Fig. 6.1
An Individual Supply Curve for
Recycling Services
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Fig. 6.2
The Market Supply Curve for
Recycling Services
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Profit Maximization
Profit
The difference between the total revenue it
receives from the sale of its product minus all
costs, explicit and implicit
Note: this includes opportunity cost, and is
therefore different than profit in a traditional
accounting sense
Profit-maximizing firm
A firm whose primary goal is to maximize profits
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Types of Markets
One firm =
2-12 firms
many firms
Monopoly
Oligopoly
Monopolistic
Competition
many, many firms
Perfect
Competition
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Firm Decisions to Max
Profit
What to produce (what market)?
How much to produce?
What inputs to use?
What price to charge?
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Perfect Competition
Perfectly Competitive Market
A market in which no individual supplier has
significant influence on the market price of the
product
Many firms all selling the same product. Product
is “standardized”
A Price taker is a firm that
Has no influence over the price at which it sells its
product
Sells only a fraction of the market output
Can sell as much output as it wishes
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Perfectly Competitive Firm
Given that there are many firms all
selling the exact same product, what
does the demand curve for any one
firm’s good look like?
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Fig. 6.4
The Demand Curve Facing Perfectly
Competitive Firm
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Production in the Short Run
Factors of Production
An input used in the production of a good or
service
Short Run
A period of time sufficiently short that at least
some of the firm’s factors of production are fixed
Long Run
A period of time of sufficient length that all the
firm’s factors of production are variable
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Law of Diminishing Returns
Fixed factor of production
An input whose quantity cannot be altered in the
short run. E.g. square footage of factory space
Variable factor of production
An input whose quantity can be altered in the
short run. E.g. labor
Law of Diminishing Returns
If one factor is variable and all others are fixed:
the increased production of the good eventually
requires ever larger increases in the variable
factor
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Law of Diminishing Marginal
Returns
Q
Point of diminishing
marginal returns
Labor
MPL
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Implications for Marginal
Costs
Since productivity (MPL) typically first
increases and then decreases (at the point of
DMR), what will marginal costs do?
When productivity is rising, marginal costs
should be falling.
When productivity is falling, marginal costs
should be rising.
Unit costs measures are inversely related to
productivity measures
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Choosing Output
How much to produce?
The goal is to maximize profit
Profit = TR – TC
A perfectly competitive firm chooses to
produce the output level where profit is
maximized
Cost-Benefit Principle
 A firm should increase output if marginal
benefit (revenue) exceeds the marginal cost
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Choosing Output
Cost-Benefit Principle
Increase output if marginal benefit exceeds the
marginal cost
For a perfectly competitive firm
Marginal benefit = marginal revenue = price
Cost-Benefit Principle for a Price Taker
Keep expanding as long as the price of the
product is greater than marginal cost
Choose the output where P = MC
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Profit Maximizing Condition
Profit = TR – TC
Max Profit with respect to Q
d Profit / dQ = (dTR/ dQ) – (dTC/dQ) = 0
 therefore maximum profit occurs where MR
= MC
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Shut Down?
Perfectly competitive firms should
produce where MR (P) = MC, unless
price is very low
If total revenue falls below variable
cost, the best the firm could do is shut
down in the short run
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Fig. 6.5
The Firm’s Marginal Cost of Production
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Fig. 6.6
Price = Marginal Cost: The Perfectly
Competitive Firm’s Profit-Maximizing
Supply Rule
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Perfectly Competitive Firm’s
Supply Curve
The perfectly competitive firm’s supply
curve is its
Marginal cost curve
At every point along a market supply
curve
Price measures what it would cost
producers to expand production by one
unit
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Profit Maximization
P
ATC = Total Cost / Q so, TC = ATC x Q
P > ATC means profit > 0
MC
AT
C D = MR
10 = P*
8
Q*
100
Quantity
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Suppose Price Falls to Min
ATC
P
P = ATC means profit = 0
MC
AT
C
7 = P*
D = MR
Q*
Quantity
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Suppose Price Falls below Min
ATC
P
P < ATC means profit < 0
MC
AT
C
7 = P*
D = MR
Q*
Quantity
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Producer Surplus
Producer Surplus (PS) is the difference
between the firm’s minimum
willingness to accept (MC) and what
they actually accept (P), summed over
all units produced.
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Producer Surplus and
Supply
Graphically then, PS is the area below
the price line and above the supply
curve, up to Q* P
S
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Here, PS = $100
=½(base)(height)
10
PS
= ½(20)(10)
D
20
Quantity
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exercises
A profit maximizing perfectly competitive firm must
decide:
A. only on what price to charge, taking output as fixed.
B. both what price to charge and how much to produce.
C. only on how much to produce, taking price as fixed.
D. only on which industry to join, taking price and
output as fixed.
E. only on how much revenue it wishes to collect.
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exercises
To produce 150 units of output, the firm must
use 3 employee-hours. To produce 300 units
of output the firm must use 8 employeehours. Apparently, the firm is:
A. more profitable.
B. experiencing diminishing marginal
returns.
C. in the long run.
D. not using any fixed factors of production.
E. failing to profit maximize.
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exercises
 Which of the following factors of production is likely to be fixed
in the short run?
A. The location of the firm.
B. The number of employee-hours.
C. The amount of electricity consumed.
D. The amount of paper used.
E. The amount of RAM installed in the network server.
 When the marginal return to the variable factor of production
is diminishing, the marginal cost curve is
A. upward sloping.
B. convex.
C. parallel to the vertical axis.
D. downward sloping.
E. concave.
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