Monopolistic Competition
Perfect Competitionaka Pure Competition
Oligopoly
Monopoly
Perfect Competition
Monopolistic Competition
OligopolyMonopoly
Pure Competition
Monopolistic Competition Oligopoly Monopoly
Number of Firms
Barriers to Entry
Non-price Competition
Price Taker/Maker
Product type
Many small Many small A few large one
Diff or Homog oneDifferentiatedHomogeneous
large largenonenone
maker makertaker/seekertaker
yes yesyesno
Considers action or reaction of other firms
Need to stress differences?
Long run profits possible?
Ability to influence market price?
As important as price?
1. Many Sellers2. Identical Products
Characteristics?
4. No Non-Price competition
6. Price Taker
3. Easy Entry and Exit
5. SR profits/losses, no LR profits
Output
Price Firm
Output
Price Market
Perfect Competition• Market supply & demand determine price.• The firm’s demand will be perfectly
elastic. • Firms can sell as much as they want at P• Above P, they lose business• Below P they lose revenue.
P
Marketdemand
Marketsupply
Firm’sdemand
P
Firms must take the market price
Number of Cakes
Marginal Revenue
Marginal Cost
0
1 40 25
2 40 10
3 40 15
4 40 25
5 40 35
6 40 45
7 40 65
8 40 91
$120
110
100
90
80
70
60
50
40
30
20
10
01 2 3 4 5 6 7 8 Number of Cakes
Marg
inal C
ost
an
d M
arg
inal R
even
ue
Marcia’s Marginal Cost and Marginal Revenue
Profits
Losses
• The two conditions necessary for long-run equilibrium in a price-taker market are depicted here.
• At the price established in the market, firms in the industry earn zero economic profit
• The quantity supplied and the quantity demanded must be equal in the market, as shown below at P1 with output Q1.
Output
Price Firm
P1
q1
MC ATC
d1
Long-run Equilibrium
Output
Price Market
P1
D
Ssr
Q1
Price
Quantity
$6
$5
$4
$3
$2
$1
10 20 30 40 50 600
Price = Demand = MR
Operating at Minimum ATC
Equilibrium
ATCMC
Normal Profit
Earn economic profit MR > ATC
MR = ATC
Short Run Profits
Short Run Losses
Shut DownFirm can’t cover AVC, minimize
losses by shutting down
MR < AVC
Output
Price Firm
MC
ATC
AVC
P3
Firm covers AVC, but not AFC:
MR < ATC, but MR > AVC
MR
Output
Price Firm
MC
ATC
AVC
• The marginal cost curve (MC) is the firm’s supply curve.
• At P2 MR = MC at q2.
• Below MC = AVC, the firm will shut down Output = 0 below P1,,
• At P3 MR = MC at q3.
The Supply Curve
P2
P3
q2 q3
P1
q1
MC is the firm’s
Supply Curve
Entry or Exit?
Supply
Profits?
Case 1: Prices rise
Output
Price
Output
Price
• Consider the market for toothpicks. A new candy that sticks to teeth causes the market demand for toothpicks to increase from D1 to D2 … market price increases to
P2 …
MarketFirm
P1 P1
q1 Q1
D1
S1MC ATC
d1
An Increase in Market Demand
shifting the firm’s demand curve upward. At the higher price, firms expand output to q2 and earn short-run profits.• Economic profits will draw competitors into the industry, shifting the market supply curve from S1 to S2.
P2 d2
q2
D2
S2
Q2
P2
Output
Price
Output
Price
• After the increase in market supply, a new equilibrium is established at the original market price P1 and a larger rate of output (Q3).• As the market price returns to P1, the demand curve facing the firm returns to its original level.• In the long-run, economic profits are driven down to zero.
The Adjustment
MarketFirm
P1 P1
q1 Q1
D1
S1MC ATC
d1
P2 d2
q2
D2
S2
Q2
P2
Slr
Q3
d1
Price
Quantity
$6
$5
$4
$3
$2
$1
10 20 30 40 50 600
Price = Demand = MR
SR Profits
1. Price goes up
ATC
2. Firms enter, Supply increases3. Price goes down
4. No LR Profits
MC
Entry or Exit?
Supply
Case 2: Prices fall
Profits?
Output
Price
Output
Price
A Decrease in Demand
MarketFirm
P1 P1
q1 Q1
D1
S1MC ATC
d1
P2 d2
q2 Q2
P2
• If, instead, something causes market demand for toothpicks to decrease from D1 to D2 … the market price falls to
P2 shifting the firm’s demand curve downward, leading to a reduction in output to q2. The firm is now making losses.
• Short-run losses cause some competitors to exit the market, and others to reduce the scale of their operation, shifting the market supply curve from S1 to S2.
S2
D2
Output
Price
Output
Price
The Adjustment:
MarketFirm
P1 P1
q1 Q1
D1
S1MC ATC
P2 d2
d1
q2
D2
S2
Q2
P2
• After the decrease in market supply, a new equilibrium is established at the original market price P1 and a smaller rate of output Q3.• As the market price returns to P1, the demand curve facing the firm returns to its original level.• In the long-run, economic profit returns to zero.• Note the long-run market supply curve is flat Slr.
Q3
Slrd1
Price
Quantity
$6
$5
$4
$3
$2
$1
10 20 30 40 50 600
P = D = MRSR
Losses
1. Price goes down
ATC
2. Firms leave, Supply decreases3. Price goes up
4. No LR Losses
MC
Short Run Profits
Supply shifts out and price drops
Cause firms to enter the marketShort Run LossesCause firms to leave the marketSupply shifts in and price rises
In competitive price-taker markets, firmsa. can sell all of their output at the market price.b. produce differentiated products.c. can influence the market price by altering their output level.d. are large relative to the total market.
When we say that a firm is a price taker, we are indicating that thea. firm takes the price established in the market then tries to
increase that price through advertising.b. firm can change output levels without having any significant
effect on price.c. demand curve faced by the firm is perfectly inelastic.d. firm will have to take a lower price if it wants to increase the
number of units that it sells.
In price-taker markets, individual firms have no control over price. Therefore, the firm’s marginal revenue curve is
a.a downward-sloping curve.b. indeterminate.c. constant at the market price of the product.d.precisely the same as the firm’s total revenue curve.
If marginal revenue exceeds marginal cost, a price-taker firm shoulda. expand output. b. reduce output.c. lower its price. d. do both a and c.
When firms in a price-taker market are temporarily able to charge prices that exceed their production costs,
a. the firms will earn long-run economic profit.b. additional firms will be attracted into the market until price falls to
the level of per-unit production cost.c. the firms will earn short-run economic profits that will be offset by
long-run economic losses.d. the existing firms must be colluding or rigging the market,
otherwise, they would be unable to charge such high prices.
Suppose a restaurant that is highly profitable during the summer months is unable to cover its total cost during the winter months. If it wants to maximize profits, the restaurant shoulda. shut down during the winter, even if it is able to cover its variable costs during that period.b. continue operating during the winter months if it is able to cover its variable costs.c. go a out of business immediately; losses should never be tolerated.d. lower its prices during the summer months.
expand output
This graph illustrates a firma.capable of earning economic profit.b.that is only able to break even when it maximizes profit.c.taking economic losses.d.that should shut down immediatelyThis graph depicts the cost curves of a firm in a price-taker industry. At what output would the firm’s per-unit cost be at a minimum?a. 100 c. 150b. 125 d. an output > 150For the above graph, if the market price is $30, what is the
firm’s profit-maximizing output and maximum profit.a. output, 125; economic profit, zerob. output, 125; economic profit, between $1,000 and $1,250c. output, 150; economic profit, $1,500d. output, 150; economic profit, between $1,250 and $1,500