Embed Size (px)
Citation preview
slide 1Competitive firms in the short-run
PERFECT COMPETITIONPERFECT COMPETITION
This section analyzes the behavior of firms that operate in competitive markets. We take up the short-run first, and focus on two issues:
1) How firms choose their outputs.
2) How prices are determined.
slide 2Competitive firms in the short-run
In the short-run firms have some fixed costs. In addition, in the short-run firms cannot leave an industry, and new firms cannot enter.
slide 3Competitive firms in the short-run
STANDARD PROBLEMSTANDARD PROBLEM
Suppose a small accounting firm producing tax return preparation services in East Lansing, Michigan, has a short-run total cost curve like the one in our example.
Suppose the firm is a perfect competitor and can sell its services at a price of $44 per unit.
If the firm wants to maximize profits, how many tax preparations should it produce in each time period?
slide 4Competitive firms in the short-run
Q TC0 50.01 63.02 71.03 76.04 82.45 97.06 130.07 174.08 233.09 314.010 460.011 656.0
The total costcurve looks like this.
slide 5Competitive firms in the short-run
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
Q
TC
($)
slide 6Competitive firms in the short-run
The firm’s total economic profit is total revenue minus total cost.
Total revenue is price times quantity sold, where price means the revenue per unit that the firm takes in. Price is the fixed, known market price of the firm’s output.
slide 7Competitive firms in the short-run
TR is price times quantity.Price here is $44/unit.
PQ = 3(44)
The total revenue curve shows total receipts at each level of output.
The dependent variable is total revenue and the independent variable is output.
Q TR0 01 442 883 1324 176567891011
slide 9Competitive firms in the short-run
Graph the remaining points on the Total Revenue Curve.
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
Q
TR
($)
slide 11Competitive firms in the short-run
Here are the total revenue and cost curves.
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
Q
($)TC
TR
slide 12Competitive firms in the short-run
Profit = TR - TC = 132-76
Profit is total revenue minus total cost.
Q TC TR PROFIT0 50.0 0 -50.01 63.0 44 -19.02 71.0 88 17.03 76.0 132 56.04 82.4 176 93.65 97.0 2206 130.0 2647 174.0 3088 233.0 3529 314.0 39610 460.0 440 -20.011 656.0 484 -172.0
slide 14Competitive firms in the short-run
Plot the missing points of the total profit curve.
-300
-200
-100
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
Q
($)
slide 16Competitive firms in the short-run
Where profit is maximized here is obvious from looking at the previous figure.
The next thing to be shown is that the profit maximizing output is the output at which MARGINAL COST equals MARGINAL REVENUE.
slide 17Competitive firms in the short-run
The profit maximization problem is going to be solved by looking at it from the point of view of average and marginal quantities and curves, instead of total quantities.
The reason for doing this is that some problems are going to be much easier to solve if we look at the firm’s choices in terms of marginal and average revenue and cost.
slide 18Competitive firms in the short-run
Recall what the marginal and average cost curves looked like in the case of
our example.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
$TC
Q
$/QMC
AC
Q
slide 19Competitive firms in the short-run
Now for marginal revenue and average revenue.
Average revenue: The firm’s total revenue divided by output. Revenue per unit of output. The same thing as PRICE.
The average revenue curve shows average revenue as a function of output. The average revenue curve is the demand curve for output as seen by the firm.
In the case of perfect competition, the average revenue curve is horizontal at the going market price. The firm is a price taker.
slide 20Competitive firms in the short-run
THE AVERAGE REVENUE CURVE FORA COMPETITIVE FIRM IS A HORIZONTAL LINEAT MARKET PRICE.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q
P=AR
slide 21Competitive firms in the short-run
Marginal revenue: The change in total revenue per unit change in output. The slope of the total revenue curve. MR = TR / Q.
The marginal revenue curve shows marginal revenue at each level of output. Output is the independent variable, and MR is the dependent variable.
For a competitive firm MR is constant.
slide 22Competitive firms in the short-run
THE MARGINAL REVENUE CURVE FORA COMPETITIVE FIRM IS A HORIZONTAL LINEAT MARKET PRICE.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q
MR
slide 23Competitive firms in the short-run
Important pointImportant point
In perfect competition, marginal revenue and average revenue are always equal and constant for a firm.
The sense of this is that a competitive firm can always sell additional units of output at the going market price.
slide 24Competitive firms in the short-run
The total revenue and the corresponding marginal and average revenue curves are a “matched set.”
Notice that the rules governing the relationships between total, average, andmarginal quantities holdhere.
0
100
200
300
400
500
600
700
0 2 4 6 8 10 12 14
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14
$
TR
Q
$/Q
AR=MR
Q
slide 25Competitive firms in the short-run
Here’s the cost and revenue curves togetheron the same set of axes.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR
slide 26Competitive firms in the short-run
Without the datamarkers the graphslook like this.
The profit maximizing outputhere is 7 units.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 27Competitive firms in the short-run
WHY MUST 7 BE THE PROFIT MAXIMIZING OUTPUT?
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 28Competitive firms in the short-run
REASONING: 1) Take any other output, say 4. 2) Now increase output by a small amount. 3) Profits increase, so they can’t be maximized at an output of 4.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 29Competitive firms in the short-run
Be sure you understand why profits increase when output isincreased from 4. The increase in output has two effects: it increases revenue and it increases costs. At output = 4, the increase in revenue exceeds the increase in costs, so profits grow.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 30Competitive firms in the short-run
At an output of 9, profits can be increased by reducing output.Why? At output of 9, MC > MR. Therefore, a reduction in outputreduces costs by more than it reduces revenues, so profits grow.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 31Competitive firms in the short-run
At output of 7, MC = MR. That means that a small increase in outputadds exactly as much to revenues as it does to costs. But addingthe same amount to revenues as to costs leaves total profit unchanged.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 32Competitive firms in the short-run
An important point: profits are not maximized at the bottom of the AC
curve.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14
$/Q MC
MR=P
AC
Q
Average cost is minimized here.
Average cost is minimized here.
slide 33Competitive firms in the short-run
Measuring total profits in the average/marginal approach to finding the profit maximizing output.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
First, find the area that corresponds to TR.
(=PQ)
slide 35Competitive firms in the short-run
Measuring total profits in the average/marginal approach to finding the profit maximizing output.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
Then find the area that corresponds to TC.
(= AC times Q)
slide 37Competitive firms in the short-run
Measuring total profits in the average/marginal approach to finding the profit maximizing output.
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
The difference between the two is total profit. Show it here.
slide 39Competitive firms in the short-run
Can you find total profitat the output where average cost is minimized?
slide 41Competitive firms in the short-run
Rule to remember:Rule to remember:
The output where profit is maximized is the output where MC = MR.
(This rule works for all firms, not just firms in perfect competition.)
slide 42Competitive firms in the short-run
The profit maximizing outputhere is 7 units.
Review one more time!!!
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14Q
$/Q MC
AC
MR=P
slide 43Competitive firms in the short-run
Producer Surplus
The Producer Surplus for a firm is the difference between the amount of revenue the firm receives at a particular output level minus the minimum amount it would accept to produce that output.
The next (hidden) slide shows how to find producer surplus for a competitive firm.
