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ECO100 - OCT 29

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James Pesando

Perfect Competition 1. Perfect Competition ● What we have looked at: Downward sloping demand, typical graphs ● Now we focus on: Supply curve ○ Supply curve exists only in a perfectly competitive market ○ The supply curve is driven by profit-maximizing behaviour by a firm in a perfectly competitive industry Your an organic farmer (no pesticides) ● There is a sharp increase in the demand for organic foods. ○ Questions: ■ 1) Will you earn (economic) profits? ■ 2) Will these (economic) profits continue over the long run? ○ Answers: ■ 1) Yes. ● intuitively, you produce a product and the demand goes up ■ 2) No ● Will not continue in the long run ● As an organic farmer earning economic profits, serves as an incentives for other farmers to switch to organic crops ● As others farmers switch to organic crops, competition is going to continue until the economic profits are competed away ● Insight: for economic profit to persist over the long run, there must be obstacles (barriers to entry) that prevent new firms from entering and competing. ● Organic Foods: A perfectly competitive market. ● What is a perfectly competitive market? Requirements: ○ 1) MANY buyers and sellers of an IDENTICAL product (so that actions of each buyer and seller do no influence market price) ○ 2) Firms can enter or exit the industry (No barriers to entry or exit) ■ Farmers who wishes to switch to organic crops and do so ● Key features ○ 1) Each firm is a price taker and faces a perfectly elastic demand curve at market price ■ No firm is large enough to have any impact on market price ○ 2) The number of firms is fixed in the short run, but can vary in the long run. ■ ○ Study role of individual terms in a perfectly competitive industry ○ DD: market demand curve ○ dd: firm’s demand curve ○ supply of the output of the industry reflects on the behaviour of the individual firms in the industry ○ Demand curve facing the market as a whole is downward sloping, and the demand curve facing an individual firm is perfectly elastic at the market price ○ Individual terms: action of the each seller (sell as much output as it wants) do not have any influence on the market price. 2. Total Revenue,Average Revenue, Marginal Revenue ● If your a firm in a perfectly competitive market, how do you choose that level of output that will maximize your profit? ● Firm in a perfectly competitive market: a firm who can vary its output and not influence the market price. Q P TR (P*Q) AR (TR/Q) MR ( TR/ Q) 1 6 6 6 6 2 6 12 6 6 3 6 18 6 6 4 6 24 6 6 5 6 30 6 6 ● Market price, determined by the market. Firm
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