Download Micro Ch 8 and 9 - 19e

08 and 09
Pure Competition in the Short Run & Long
Run
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter Objectives
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
End Show
9-2
• Names and Main Characteristics of
the Four Basic Market Models
• Conditions for Perfect Competition
• How Do Purely Competitive Firms
Maximize Profits or Minimize
Losses
• Why the Marginal Cost and Supply
Curves For Competitive Firms Are
Identical
• How Industry Entry and Exit Create
Economic Efficiency
• Differences Between ConstantCost, Increasing-Cost, and
Decreasing-Cost Industries
Copyright 2008 The McGraw-Hill Companies
Four Market Models
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
• Pure Competition
• Pure Monopoly
• Monopolistic Competition
• Oligopoly
Imperfect Competition
Pure
Competition
Monopolistic
Competition
Oligopoly
Pure
Monopoly
Key Terms
Market Structure Continuum
End Show
9-3
Copyright 2008 The McGraw-Hill Companies
Four Market Models
Characteristics of the Four Basic Market Models
Pure
Characteristic Competition
Monopolistic
Competition
Oligopoly
Monopoly
Number of firms
A very large
number
Many
Few
One
Type of product
Standardized
Differentiated
Standardized or
differentiated
Unique; no
close subs.
Control over
price
None
Some, but within rather
narrow limits
Limited by mutual
inter-dependence;
considerable with
collusion
Considerable
Conditions of
entry
Very easy, no
obstacles
Relatively easy
Significant
obstacles
Blocked
Nonprice
Competition
None
Considerable emphasis
on advertising, brand
names, trademarks
Typically a great
deal, particularly
with product
differentiation
Mostly public
relation
advertising
Examples
Agriculture
Retail trade, dresses,
shoes
Steel, auto, farm
implements
Local utilities
LO1
8-4
Pure Competition: Characteristics
• Very large numbers of sellers
• Standardized product
• “Price takers”
• Easy entry and exit
• Perfectly elastic demand
• Firm produces as much or little as
they want at the price
• Demand graphs as horizontal line
LO2
8-5
Average, Total, and Marginal Revenue
• Average Revenue
• Revenue per unit
• AR = TR/Q = P
• Total Revenue
• TR = P X Q
• Marginal Revenue
• Extra revenue from 1 more unit
• MR = ΔTR/ΔQ
LO3
8-6
Pure Competition
$1179
Key Terms
Firm’s
Demand
Schedule
(Average
Revenue)
P
Firm’s
Revenue
Data
917
QD TR
$131 0
131 1
131 2
131 3
131 4
131 5
131 6
131 7
131 8
131 9
131 10
TR
1048
$0
131
262
393
524
655
786
917
1048
1179
1310
MR
] $131
] 131
] 131
] 131
] 131
] 131
] 131
] 131
] 131
] 131
Price and Revenue
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
786
655
524
393
262
D = MR = AR
131
2
4
6
8
10
Quantity Demanded (Sold)
End Show
9-7
Copyright 2008 The McGraw-Hill Companies
12
Profit Maximization in the
Short Run
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
Total Revenue-Total Cost Approach
Consider:
–Should Product Be
Produced?
–If So, In What Amount?
–What Economic Profit
(Loss) Will Be Realized?
End Show
9-8
Copyright 2008 The McGraw-Hill Companies
3 Production Questions
Output Determination in Pure Competition in the Short Run
LO3
Question
Answer
Should this firm produce?
Yes, if price is equal to, or greater than,
minimum average variable cost. This
means that the firm is profitable or that
its losses are less than its fixed cost.
What quantity should this firm produce?
Produce where MR (=P) = MC; there,
profit is maximized (TR exceeds TC by
a maximum amount) or loss is
minimized.
Will production result in economic
profit?
Yes, if price exceeds average total cost
(TR will exceed TC). No, if average
total cost exceeds price (TC will exceed
TR).
8-9
Profit Maximization in the
Short Run
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
Total Revenue-Total Cost Approach
Price = $131
(1)
Total Product
(Output) (Q)
0
1
2
3
4
5
6
7
8
9
10
(2)
Total Fixed
Cost (TFC)
(3)
Total Variable
Cost (TVC)
$100
100
100
100
100
100
100
100
100
100
100
$0
90
170
240
300
370
450
540
650
780
930
(4)
(5)
(6)
Total Cost Total Revenue Profit (+)
(TC)
(TR)
or Loss (-)
$100
190
270
340
400
470
550
640
750
880
1030
$0
131
262
393
524
655
786
917
1048
1179
1310
$-100
-59
-8
+53
+124
+185
+236
+277
+298
+299
+280
Do
You
SeeGraph
Profit The
Maximization?
Now
Let’s
Results…
End Show
9-10
Copyright 2008 The McGraw-Hill Companies
Profit Maximization in the
Short Run
Key Terms
End Show
9-11
Total Revenue and Total Cost
$1800
1700
1600
1500
1400
1300
1200
1100
1000
900
800
700
600
500
400
300
200
100
Total Economic
Profit
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Total Revenue-Total Cost Approach
Break-Even Point
(Normal Profit)
W 9.1
Total Revenue, (TR)
Maximum
Economic
Profit
$299
Total Cost,
(TC)
P=$131
Break-Even Point
(Normal Profit)
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14
Quantity Demanded (Sold)
$500
400
300
200
100
Total Economic
Profit
$299
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14
Quantity Demanded (Sold)
Copyright 2008 The McGraw-Hill Companies
G 9.1
Profit Maximization in the
Short Run
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Marginal Revenue-Marginal Cost Approach
MR = MC Rule
Important Features:
• Firm Will max profits or
min loss where MR = MC
• Profit Maximization in All
Market Structures
• Can Be Restated P = MC
Key Terms
End Show
9-12
Copyright 2008 The McGraw-Hill Companies
Profit Maximization in the
Short Run
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
Marginal Revenue-Marginal Cost Approach
MR = MC Rule
(1)
Total
Product
(Output)
0
1
2
3
4
5
6
7
8
9
10
(2)
Average
Fixed
Cost
(AFC)
$100.00
50.00
33.33
25.00
20.00
16.67
14.29
12.50
11.11
10.00
(3)
Average
Variable
Cost
(AVC)
(4)
Average
Total
Cost
(ATC)
$90.00 $190.00
85.00 135.00
80.00 113.33
75.00 100.00
74.00
94.00
75.00
91.67
77.14
91.43
81.25
93.75
86.67
97.78
93.00 103.00
(5)
Marginal
Cost
(MC)
$90
80
70
60
70
80
90
110
130
150
(6)
Marginal
Revenue
(MR)
(7)
Profit (+)
or Loss (-)
$131
131
131
131
131
131
131
131
131
131
$-100
-59
-8
+53
+124
+185
+236
+277
+298
+299
+280
Surprise
- Now
Let’s GraphNow?
It…
DoNo
You
See Profit
Maximization
End Show
9-13
Copyright 2008 The McGraw-Hill Companies
Profit Maximization in the
Short Run
W 9.2
$200
Cost and Revenue
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Marginal Revenue-Marginal Cost Approach
MR = MC Rule
150
MR = MC
P=$131
MC
MR = P
ATC
Economic Profit
100
AVC
A=$97.78
50
Key Terms
0
End Show
1
2
3
4
5
6
Output
9-14
Copyright 2008 The McGraw-Hill Companies
7
8
9
10
Profit Maximization in the
Short Run
Loss Minimizing Case
$200
Cost and Revenue
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Marginal Revenue-Marginal Cost Approach
MR = MC Rule
Lower the Price to $81 and
Observe the Results!
150
MC
Loss
A=$91.67
ATC
AVC
100
MR = P
P=$81
50
V = $75
Key Terms
0
End Show
1
2
3
4
5
6
Output
9-15
Copyright 2008 The McGraw-Hill Companies
7
8
9
10
Fixed Costs: Digging Out of a Hole
• Shutting down in the short run does
•
•
•
not mean shutting down forever
Low prices can be temporary
Some firms switch production on and
off depending on the market price
Examples: oil producers, resorts, and
firms that shut down during a
recession
8-16
Profit Maximization in the
Short Run
Short-Run Shut Down Case
$200
Cost and Revenue
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Marginal Revenue-Marginal Cost Approach
MR = MC Rule
Lower the Price Further to
$71 and Observe the Results!
MC
150
ATC
V = $74
100
AVC
MR = P
50
P=$71
Short-Run
Shut Down Point
P < Minimum AVC
$71 < $74
Key Terms
0
End Show
1
2
3
4
5
6
Output
9-17
Copyright 2008 The McGraw-Hill Companies
7
8
9
10
Marginal Cost and
Short-Run Supply
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
End Show
9-18
Continuing the Same Numeric
Example…
Supply Schedule of a Competitive Firm
Quantity
Maximum Profit (+)
Price
Supplied
or Minimum Loss (-)
$151
10
$+480
131
9
+299
111
8
+138
91
7
-3
81
6
-64
71
0
-100
61
0
-100
The Schedule Shows the Quantity a Firm
Will Produce at a Variety of Prices and Results
Copyright 2008 The McGraw-Hill Companies
Marginal Cost and
Short-Run Supply
Generalizing the MR=MC
Relationship and its Use
Cost and Revenues (Dollars)
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
e
P5
MR5
d
P4
ATC
c
P3
P2
P1
AVC
b
a
This Price is Below AVC
And Will Not Be Produced
Key Terms
0
End Show
Q2
Q3
Q4
Quantity Supplied
9-19
Copyright 2008 The McGraw-Hill Companies
MC
Q5
MR4
MR3
MR2
MR1
Marginal Cost and
Short-Run Supply
Generalizing the MR=MC
Relationship and its Use
Examine the MC for the Competitive Firm
Cost and Revenues (Dollars)
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
MC Above AVC Becomes
the Short-Run Supply Curve
Break-even
(Normal Profit) Point
P5
P4
Key Terms
AVC
b
a
0
Shut-Down Point
(If P is Below)
Q2
Q3
Q4
Quantity Supplied
9-20
ATC
c
P3
P2
P1
Copyright 2008 The McGraw-Hill Companies
MC
MR5
d
This Price is Below AVC
And Will Not Be Produced
End Show
e
S
Q5
MR4
MR3
MR2
MR1
Changes in Supply
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
• Firm and Industry
–Equilibrium Price
–Market Price and Profits
–Firm Versus Industry
Graphically…
Key Terms
End Show
9-21
Copyright 2008 The McGraw-Hill Companies
Changes in Supply
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Single Firm
p
W 9.3
P
S = ∑ MC’s
s = MC
Economic
Profit
ATC
d
$111
$111
AVC
D
0
Key Terms
Industry
8
p
0
8000
Competitive Firm Must Take the Price that is
Established By Industry Supply and Demand
End Show
9-22
Copyright 2008 The McGraw-Hill Companies
P
09
Pure Competition in the Long
Run
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Note to Students:
• The following material will not be
covered, nor is it required reading:
– Long Run Supply: Constant-Cost Industry
– Long Run Supply: Increasing-Cost Industry
– Long Run Supply: Decreasing-Cost
Industry
Profit Maximization in
the Long Run
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
• Assumptions
–Entry and Exit Only
–Identical Costs
–Constant-Cost Industry
• Goal of the Analysis
• Long-Run Equilibrium
–Entry Eliminates Profits
–Exit Eliminates Losses
Key Terms
End Show
9-25
Copyright 2008 The McGraw-Hill Companies
Supply Readjustment
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Single Firm
Industry
p
P
S1
MC
ATC
$60
$60
50
50
S2
MR
D2
40
40
D1
0
100
p
0
80,000
90,000
100,000
P
An Increase in Demand Temporarily Raises Price
Higher Prices Draw in New Competitors
Increased Supply Returns Price to Equilibrium
Key Terms
End Show
9-26
Copyright 2008 The McGraw-Hill Companies
Supply Readjustment
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Single Firm
Industry
p
P
S3
MC
ATC
$60
$60
50
50
S1
MR
D1
40
40
D3
0
100
p
0
80,000
90,000
100,000 P
A Decrease in Demand Temporarily Lowers Price
Lower Prices Drive Away Some Competitors
Decreased Supply Returns Price to Equilibrium
Key Terms
End Show
9-27
Copyright 2008 The McGraw-Hill Companies
Pure Competition and
Efficiency
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
End Show
9-30
• Productive Efficiency
P = Minimum ATC
• Allocative Efficiency
P = MC
• Maximum Consumer and
Producer Surplus
• Dynamic Adjustments
• “Invisible Hand” Revisited
O 9.1
Copyright 2008 The McGraw-Hill Companies
Long-Run Equilibrium
Competitive Firm and Market
Key Terms
Single Firm
P=MC=Minimum
ATC (Normal Profit)
Market
MC
S
Price
ATC
Price
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
MR
P
P
D
0
Qf
Quantity
0
Qe
Quantity
Productive Efficiency: Price = Minimum ATC
Allocative Efficiency: Price = MC
Pure Competition Has Both in
Its Long-Run Equilibrium
End Show
9-31
Copyright 2008 The McGraw-Hill Companies
Efficiency Gains From Entry:
The Case of Generic Drugs
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
End Show
9-32
• Competitive Model Predicts Lower Price
and Greater Output With Increased
Efficiency When New Producers Enter
Market
• Example is Patented Drugs
• Patents Enable Greater Profits in
Support of R&D and Accelerated Cost
Recovery
• After Patent Period Generics Enter
Market
• Profits Decrease and Quantities
Increase
• Combined Consumer and Producer
Surpluses Increase
Copyright 2008 The McGraw-Hill Companies
Efficiency Gains From Entry:
The Case of Generic Drugs
Key Terms
End Show
9-33
New Producers Enter Market
a
S
• As Price
Initial Patent Price
Decreases to f,
b
c
P
1
• Consumer
Surplus abc
d
f
P
2
Increases to
adf
• Producer and
Consumer
Surplus is
D
Maximized
Q1
Q2
Together as
Quantity
Shown by
the Gray
Results: Greater Quantity at Lower Prices
Triangle
as Predicted by the Competitive Model
Price
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Copyright 2008 The McGraw-Hill Companies
Key Terms
Four Market
Models
Pure Competition
Profit
Maximization in
the Short-Run
Marginal Cost
and Short-Run
Supply
Changes in
Supply
Profit
Maximization in
the Long Run
Supply
Readjustment
Pure Competition
and Efficiency
Long-Run
Equilibrium
Last Word
Key Terms
End Show
9-34
• pure competition
• pure monopoly
• monopolistic
competition
• oligopoly
• imperfect
competition
• price taker
• average revenue
• total revenue
• marginal revenue
• break-even point
• MR=MC
• short-run supply
curve
Copyright 2008 The McGraw-Hill Companies
• long-run supply
curve
• constant-cost
industry
• increasing-cost
industry
• decreasing-cost
industry
• productive
efficiency
• allocative
efficiency
• consumer surplus
• producer surplus