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MARKET STUCTURE: PERFECT COMPETITION
Transcript of MARKET STUCTURE: PERFECT COMPETITION
SHORT- RUN ABNORMAL PROFITS TO LONG-RUN ABNORMAL PROFITS
Firms producing abnormal profits is an incentive for other firms to enter the industry, allowed via no barriers to entry & perfect knowledge of the market.
PROFIT & LOSS IN THE SHORT-RUN
Short-run abnormal profit: Covering implicit & explicit costs (TC & Opportunity Costs)
Profit Maximization: MC=MR
SHORT- RUN LOSSES TO LONG-RUN NORMAL PROFITS
Short-run losses will cause many firms to leave the industry, contracting supply of firms and causing a minimization of losses with a return to normal profit.
WHAT DETERMINES A FIRM OPERATING IN A PERFECTLY COMPETITIVE MARKET?
Theoretical (some produce market vendors are close)
Large number of firms
Individual firms are small
Individual firms cannot affect the supply nor the price
Firms are price-takers
Goods are homogenous
No barriers to entry or exit from the industry
Perfect knowledge of the market for Producers & Consumers (symmetrical information)
Perfect resource mobility (completely mobile = easily transferred)
Short-run loss: Not covering TC, but still loss minimizing due to production at MC=MR
Productive Efficiency: A firm producing at the lowest possible unit cost (MC=AC)
Allocative Efficiency: Socially optimum level of output (Pareto Optimality), when firms produce where MC=AR
PRODUCTIVE & ALLOCATIVE EFFICIENCY WITH SHORT-RUN PROFITS
PRODUCTIVE & ALLOCATIVE EFFICIENCY WITH SHORT-RUN LOSSES
PRODUCTIVE & ALLOCATIVE EFFICIENCY IN THE LONG-RUN
PROFIT MAXIMIZATION: MC=MR
ALLOCATIVE EFFICIENCY: MC=AR
EFFICIENT OUTPUT LEVEL: MC=AC
In the long-run all firms will produce at the lowest point of the LRAC curves, due to perfect knowledge in the industry.
QUIZ QUESTIONS FOR NEXT CLASS:
1) Using a graph, explain whether or not a firm in perfect competition, earning abnormal profits, is productively & allocatively efficient.
2) With the help of a graph show if it is possible for a firm operating in perfect competition to earn abnormal profits.
3) Using a diagrammatic proof, show how a firm operating in a perfectly competitive market can move from having short-run losses to earning long-run normal profit.
EVALUATION OF PERFECT COMPETITION
INSIGHTS INTO THE MODEL
LIMITATIONS OF THE MODEL
Allocative efficiency (P=MC)
Productive efficiency (Minimum level of ATC)
Low price for consumers
Competition leads to closing down of inefficient producers
Market responds to consumer tastes
Market responds to changes in tech 0r resource prices
Limited possibility to take advantage of economies of scale
Lack of product variety
Waste of resources in the process of long-run adjustment (high level of openings & closings of firms)
Limited ability to engage in R&D
Firm is still producing at the profit maximizing level of output (MC=MR).
The interconnected characteristics (assumptions) of a market (firms in an industry); such as the number and relative strength of buyers and sellers & degree of collusion among them, level and forms of competition, extent of product differentiation, and ease of entry into and exit from the market.
A good short video on the 4 types of Market Structures.