Pure Competition 6 LECTURE Market Structure Continuum FOUR MARKET MODELS Pure Competition

Pure Competition

6LECTURE

Market Structure Continuum

FOUR MARKET MODELS

Pure Competition

PureCompetition

FOUR MARKET MODELS

Pure Monopoly

PureCompetition

PureMonopoly

FOUR MARKET MODELS

Imperfect Competition

PureCompetition

PureMonopoly

FOUR MARKET MODELS

Monopolistic Competition

PureCompetition

PureMonopoly

MonopolisticCompetition

FOUR MARKET MODELS

Oligopoly

PureCompetition

PureMonopoly

MonopolisticCompetition Oligopoly

FOUR MARKET MODELSPure Competition:• Very Large Numbers• Standardized Product• “Price Takers”• Free Entry and Exit

DEMAND AS SEEN BY APURELY COMPETITIVE SELLER

Perfectly Elastic DemandPrice Taker Role

Total RevenueAverage Revenue

Marginal Revenue

For example...

$131 131131131131131131131131131131

0 1 23456789

$ 0131262393524655786917

104811791310

$131131131131131131131131131131

Product Price (P)(Average Revenue)

TotalRevenue (TR)

MarginalRevenue (MR)

QuantityDemanded (Q)

]]]]]]]]]]

$131 131131131131131131131131131131

0 1 23456789

$ 0131262393524655786917

104811791310

$131131131131131131131131131131

Product Price (P)(Average Revenue)

TotalRevenue (TR)

MarginalRevenue (MR)

QuantityDemanded (Q)

]]]]]]]]]]

GraphicallyPresented…

DEMAND, MARGINAL REVENUE, AND TOTALREVENUE IN PURE COMPETITION

D = MR

1 2 3 4 5 6 7 8 9 10

Quantity Demanded (sold)

SHORT RUN PROFIT MAXIMIZATION

Two Approaches...First:Total-Revenue -Total Cost Approach

The Decision Rule:Produce in the short-run if it can realize

1- A profit (or)2- A loss less than its fixed costs

The Decision Process:•Should the firm produce?•What quantity should be produced?•What profit or loss will be realized?

The Decision Rule:Produce in the short-run if it can realize

1- A profit (or)2- A loss less than its fixed costs

The Decision Process:•Should the firm produce?•What quantity should be produced?•What profit or loss will be realized?

AppliedGraphically…

TotalCost

0 1 23456789

TotalProduct

TotalFixedCost

TotalVariable

CostTotal

Revenue Profit

$ 100 100 100100100100100100100100100

170240300370450540650780930

$ 100190270340400470550640750880

Price: $131

- $100- 59

- 8+ 53

+ 124+ 185+ 236+ 277+ 298+ 299+ 280

TOTAL REVENUE-TOTAL COST APPROACH

$ 0131262393524655786917

104811791310

Can you see the

profit maxim

ization?

TotalCost

0 1 23456789

TotalProduct

TotalFixedCost

TotalVariable

CostTotal

Revenue Profit

$ 100 100 100100100100100100100100100

170240300370450540650780930

$ 100190270340400470550640750880

Price: $131

- $100- 59

- 8+ 53

+ 124+ 185+ 236+ 277+ 298+ 299+ 280

$ 0131262393524655786917

104811791310

Graphing Total

Cost & Revenue

$1,8001,7001,6001,5001,4001,3001,2001,1001,000 900 800 700 600 500 400 300 200 100 0

TotalRevenue

TotalCost

MaximumEconomic

Profits$299

Break-Even Point(Normal Profit)

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Three Characteristics:• The rule applies only if producing

is preferred to shutting down• Rule applies to all markets• Rule can be restated P=MC

Second:Marginal-Revenue -Marginal Cost

Approach

MR = MC Rule

AverageTotalCost

0 1 23456789

TotalProduct

AverageFixedCost

AverageVariable

Price =MarginalRevenue

TotalEconomicProfit/Loss

$100.00

50.00 33.3325.0020.0016.6714.2912.5011.1110.00

$90.0085.0080.0075.0074.0075.0077.1481.2586.6793.00

$190.00135.00113.33100.00

94.0091.6791.4393.7597.78

103.00

- $100- 59

- 8+ 53

+ 124+ 185+ 236+ 277+ 298+ 299+ 280

MARGINAL REVENUE-MARGINAL COST APPROACH

$ 131131131131131131131131131131

MarginalCost

90807060708090

110130150

Thesame profitmaximizing

result!

AverageTotalCost

0 1 23456789

TotalProduct

AverageFixedCost

AverageVariable

Price =MarginalRevenue

TotalEconomicProfit/Loss

$100.00

50.00 33.3325.0020.0016.6714.2912.5011.1110.00

$90.0085.0080.0075.0074.0075.0077.1481.2586.6793.00

$190.00135.00113.33100.00

94.0091.6791.4393.7597.78

103.00

- $100- 59

- 8+ 53

+ 124+ 185+ 236+ 277+ 298+ 299+ 280

$ 131131131131131131131131131131

MarginalCost

90807060708090

110130150

Graphically

1 2 3 4 5 6 7 8 9 10

AVCATC

Economic Profit

$131.00

$97.78

Profit Maximization Position

1 2 3 4 5 6 7 8 9 10

AVCATC

Economic Profit

$131.00

$97.78

MR = MCOptimumSolution

Profit Maximization Position

The MR=MC rule still applies

If the price is lowered from $131 to $81

…But the MR = MC point changes

Loss Minimization Position

1 2 3 4 5 6 7 8 9 10

MRAVCATC

Economic Loss

$81.00$91.67

Loss Minimization Position

1 2 3 4 5 6 7 8 9 10

AVCATC

$71.00

Short-Run Shut Down Point

Minimum AVCis the Shut-Down

Marginal Cost & Short-Run Supply

PriceQuantitySupplied

Maximum Profit (+)Or Minimum Loss (-)

Observe the impact upon profitability as price is changed

$151 131 111 91 81 71 61

10987600

$+480+299

+138 -3

-64 -100 -100

Quantity Supplied

Q2 Q3 Q4 Q5

Do notProduce –

Below AVC

Quantity Supplied

Q2 Q3 Q4 Q5

Marginal Cost & Short-Run SupplyYields theShort-Run

Supply Curve

Supply

NoProductionBelow AVC

Higher Costs Move theSupply Curve to the LeftC

Quantity Supplied

Lower Costs Movethe Supply Curve

to the Right

Quantity Supplied

S= MC’s

IndustryFirm(price taker)

EconomicProfit

$111$111

SHORT RUN COMPETITIVE EQUILIBRIUM

The Competitive Firm “Takes” it’sPrice from the Industry Equilibrium

S= MC’s

EconomicProfit

$111$111

SHORT RUN COMPETITIVE EQUILIBRIUM

The Competitive Firm “Takes” it’sPrice from the Industry Equilibrium

How about thelong-run?

PROFIT MAXIMIZATION IN THE LONG-RUN

Goal...

Price = Minimum ATC

Zero Economic Profit Model

Temporary Profits and the ReestablishmentOf Long-Run Equilibrium

Q100,000

An increase in demand increases profits…

Q100,000

EconomicProfits

New Competitors increase supply and lowerPrices decrease economic profits

Q100,000

Zero EconomicProfits

Decreases in demand, Losses and the Reestablishment of Long-Run Equilibrium

Q100,000

A decrease in demand creates losses…

Q100,000

EconomicLosses

Q100,000

Return to ZeroEconomic Profits

Competitors with losses decrease supply andprices return to zero economic profits

Quantity

Price = MC = Minimum ATC(normal profit)

LONG-RUN EQUILIBRIUM FOR A COMPETITIVE FIRM

Pure Competition 6 LECTURE Market Structure Continuum FOUR MARKET MODELS Pure Competition

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