Pure Competition in the Short Run11McGraw-Hill/IrwinCopyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Four Market ModelsPure competitionPure monopolyMonopolistic competitionOligopolyLO1Market Structure ContinuumPure CompetitionMonopolisticCompetition

OligopolyPureMonopoly

Four Market ModelsLO1

Characteristics of the Four Basic Market ModelsCharacteristicPure CompetitionMonopolistic CompetitionOligopolyMonopolyNumber of firmsA very large numberManyFewOneType of productStandardizedDifferentiatedStandardized or differentiatedUnique; no close subs.Control over priceNoneSome, but within rather narrow limitsLimited by mutual inter-dependence; considerable with collusionConsiderableConditions of entryVery easy, no obstaclesRelatively easySignificant obstaclesBlockedNonprice CompetitionNoneConsiderable emphasis on advertising, brand names, trademarksTypically a great deal, particularly with product differentiationMostly public relation advertisingExamplesAgricultureRetail trade, dresses, shoesSteel, auto, farm implementsLocal utilities

Pure Competition: CharacteristicsVery large numbers of sellersStandardized productPrice takersEasy entry and exitPerfectly elastic demandFirm produces as much or little as they want at the priceDemand graphs as horizontal line

LO2

Average, Total, and Marginal RevenueAverage RevenueRevenue per unitAR = TR/Q = PTotal Revenue TR = P X QMarginal Revenue Extra revenue from 1 more unitMR = TR/QLO3

Average, Total, and Marginal RevenueLO3D = MR = ARTRPQDTRMR$131131131131131131131131131131131012345678910$0131262393524655786917104811791310$131131131131131131131131131131

Profit Maximization: TRTC ApproachThree questions:Should the firm produce?If so, what amount?What economic profit (loss) will be realized?LO3

Profit Maximization: TRTC ApproachLO3

The Profit-Maximizing Output for a Purely Competitive Firm: Total Revenue Total Cost Approach (Price = $131)(1)Total Product(Output) (Q)(2)Total Fixed Cost (TFC)(3)Total Variable Costs (TVC)(4)Total Cost(TC)(5)Total Revenue (TR)(6)Profit (+)or Loss (-)0$100$0$100$0$-100110090190131-592100170270262-83100240340393+534100300400524+1245100370470655+1856100450550786+2367100540640917+27781006507501048+29891007808801179+2991010093010301310+280

Profit Maximization: TRTC ApproachLO3Total Revenue, (TR)Break-Even Point(Normal Profit)Break-Even Point(Normal Profit)MaximumEconomicProfit$299Total EconomicProfit$299P=$131Total Cost,(TC)

Profit Maximization: MR-MC ApproachLO3

The Profit-Maximizing Output for a Purely Competitive Firm: Marginal Revenue Marginal Cost Approach (Price = $131)(1)TotalProduct(Output)(2)Average Fixed Cost (AFC)(3)Average Variable Costs (AVC)(4)Average Total Cost(ATC)(5)Marginal Cost(MC)(5)Price = Marginal Revenue(MR)(6)Total Economic Profit (+)or Loss (-)0$-1001$100.00$90.00$190$90$131-59250.0085.0013580131-8333.3380.00113.3370131+53425.0075.00100.0060131+124520.0074.0094.0070131+185616.6775.0091.6780131+236714.2977.1491.4390131+277812.5081.2593.75110131+298911.1186.6797.78130131+2991010.0093.00103.00150131+280

Profit Maximization: MR-MC ApproachLO3Cost and RevenueOutputEconomic ProfitMR = PMCMR = MCAVCATCP=$131A=$97.78

Loss-Minimizing CaseLoss minimizationStill produce because P > minAVCLosses at a minimum where MR=MCLO3

Loss-Minimizing CaseLO3LossMR = PMCAVCATCP=$81A=$91.67V = $75

Shutdown CaseLO3MR = PMCAVCATCP=$71V = $74Short-Run Shut Down PointP < Minimum AVC$71 < $74

Three Production QuestionsLO3

Output Determination in Pure Competition in the Short RunQuestionAnswerShould 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).

Firm and Industry: EquilibriumLO4

Firm and Market Supply and the Market Demand(1)QuantitySupplied, SingleFirm(2)TotalQuantitySupplied,1000 Firms(3)ProductPrice(4)TotalQuantityDemanded1010,000$1514,00099,0001316,00088,0001118,00077,000919,00066,0008111,000007113,000006116,000

Firm and Industry: EquilibriumLO4EconomicProfitdATCAVCs = MC$111$111DS = MCs88000

*****************