Presentation by
Razma Zehri:
 Assumptions:
 Large number of firms.
 Individual firms are “price takers”.
 Freedom of entry and exit.
 Perfect knowledge of the market.
 Homogeneous products.
Demand curves for industry and
firm in perfect competition
 Industry:
 Normal demand and supply




curves.
More supply at higher price and
less demand and higher price.
Firm:
Price takers.
Have to accept the industry price.
Profit maximization for the
firm in perfect competition
 Profit maximization rule: MC=MR
 For a firm, P=D=AR=MR
Presentation by:
Madiha Imtiaz
[Perfect competition in short run]
There are certain situations in Short run
for perfectly competitive markets:
 The firm may earn super-normal profit.
 Normal profit
 The firm may incur losses:
1. The firm is not even able to meet up its
variable cost.
2. The firm is able to meet up its variable cost.
3. The firm is covering its full variable cost and
a part of fixed cost.
Short run abnormal profit in
perfect competition
 Firms are more than covering their total cost
of production.
Short-run abnormal profit to
long-run normal profit
 Short-run abnormal
profit attracts more
firms to the
industry.(Freedom of
entry)
 Supply curve shifts to
the right.(S to S1)
 This pulls down the
price. (P to P1)
 At new price, P= C
showing normal profit.
Short-run loss in perfect
competition
 Firms are not covering their total cost.
Short-run losses to log-run
normal profit
 Due to losses, a few
firms will leave the
industry.(Freedom
of exit)
 Supply curve shifts
to the left.(S to S1)
 Industry price begin
to rise.(P to P1)
 At new price, P=C
(normal profit)
Presentation by:
Ghazala Imam
Long-run equilibrium
 In the long-run, firms in
perfect competition can
make only normal profit.
 Freedom of entry and exit
eliminates the short-run
abnormal profit and shortrun losses.
 In the long-run equilibrium,
there is no incentive for firms
to enter or leave the
industry.
Profit
maximization
•MC=MR
Productive
efficiency
•MC=AC
Allocative
efficiency
•MC=AR
Productive and allocative
efficiency
 Productive efficiency:
 A firm is productive
efficient when it produces
at its lowest possible unit
cost(average cost)
 MC=AC
 This means the
combination of resources
is efficient and there no
wastage of resources.
Productive and allocative
efficiency
Allocative Efficiency:

 This is socially optimum
level of output.
 Producers are
producing the optimal
mix of goods and
services required by
consumers.
 Price reflects the value
that consumers place
on a good.
 MC=AR
Cost to
producers
The value to
consumers
Pareto Optimality
 Allocative efficiency means there is Pareto
optimality.
 Situation where it is impossible to make one
person better off without making someone
else worse off.
 An economic state where resources are
allocated in the most efficient manner.
Productive and allocative
efficiency in the long run
 In the long run, Profit
maximization level of
output=productive
efficiency=allocative
efficiency.
 This is because, there is
perfect knowledge and
same cost curves.
Examples of perfect
competition:
 Financial markets – stock exchange,
currency markets, bond markets.
 Agriculture.
Advantages of Perfect
Competition:
High degree of competition helps allocate resources to most
efficient use
Price = marginal costs
Normal profit made in the long run
Firms operate at maximum efficiency
Consumers benefit