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Chapter 12 Notes.docx

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Western University
Economics 1021A/B
Emilie Rivers

Economics Chapter 12 Perfect Competition  Selling of identical products  No entry restrictions  Sellers and buyers are well informed about prices  Old firms have no advantage over new ones -How perfect competition arises  Minimum efficient scale is small relative to market demand – room for many firms  Minimum efficient scale – smallest output at which long-run average cost reaches its lowest level -Price takers  A firm that cannot influence the price of a good or service  In perfect competition, each firm is a price taker  Perfect substitutes between firms -Economic Profit and Revenue  Goal – maximize economic profit = Total revenue minus Total cost  Total cost – opportunity cost of production  Total revenue – Price x Quantity sold  Marginal revenue – change in total revenue that results form a one-unit increase in quantity sold, change in total revenue / change in the quantity sold, market price -Demand for the firm’s products  Sell any quantity it chooses at the market price  Horizontal demand curve  Perfectly elastic demand  Goods are perfect substitutes for other goods  Market demand is not perfectly elastic, depends on the substitutability of a good for other goods and services -Firm’s decisions 1. How to produce at minimum cost 2. What quantity to produce 3. Enter or exit a market  Economic profit = TR – TC -Marginal Analysis and Supply Decision  Marginal analysis – determine the profit-maximizing output  Marginal Revenue = Marginal Cost  MR > MC o Economic profit increases if output increases  MR < MC o Economic profit decreases if output increase  MR = MC o Economic profit decreases if output changes in either direction, so economic profit is maximized -Temporary Shutdown Decision  If there is an economic loss  Decisions: exit the market (long run), stay in the market – produce something or shut down temporarily (weekends, certain days) -Loss Comparison  Economic loss = TC – TR  = (TFC + TVC) – TR  = TFC + AVC x Q – P x Q  = TFC + (AVC – P) x Q  Choose 0 quantity by shutting down  Loss = TFC  Loss is the largest that the firm must bear -Shutdown point  It’s indifferent between producing and temporarily shutting down  AVC is at its minimum  MC curve crosses the AVC curve and MC curve Output, Price and Profit in the Short Run -Market Supply in the Short Run  Short Run Market Supply Curve – quantity supplied by all firms together at each price when each firm’s plant and the number of firms remain the same -A Change in Demand  An increase in demand brings a rightward shift of the market demand curve o The price rises and the quantity increases  A decrease in demand bring a leftward shift of the market demand curve o The price falls and the quantity decreases -Profits and Losses in the Short Run  Maximum profit is not always a positive economic profit  Firms can have three possible outcomes 1. Price = ATC  zero economic profit, breaks even 2. Price > ATC  the firm makes a positive economic profit 3. Price < ATC  firm incuse an economic loss, profit is negative Output, Price, and Profit in the Long Run -Entry and Exit  New firms enter an industry in which existing firms make an economic profit  Firms exit an industry in which they incur an
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