AGENDA Mon 10/19
•
•
•
•
QOD #24: LRE
HW Review (CH 9 Q#5,6)
Graphing Practice
HW: Review CH 8 & 9 Assessment 10/22
QOD #24: LRE
A firm in a purely competitive industry is currently producing
1000 units per day at a total cost of $450. If the firm
produced 800 units per day, its total cost would be $300,
and if it produced 500 units per day, its total cost would be
$275.
1.What is the firm’s ATC per unit at these three levels of
production?
2.If every firm in this industry has the same cost structure,
is the industry in long-run competitive equilibrium?
3.From what you know about these firms’ cost structures,
what is the highest possible price per unit that could exist
as the market price in long-run equilibrium?
a) If that price ends up being the market price and if the
normal rate of profit is 10 percent, then how big will each
firm’s accounting profit per unit be?
QOD #24: LRE Solution
The ATC for
• 1000 units is $0.45;
• for 800 units is $0.375;
• for 500 units is $0.55.
• The firm is not in long-run equilibrium, because the ATC at
the current output of 1000 units is higher than the ATC for
producing 800 units.
– Given these costs, the highest possible price per unit in long-run
equilibrium would be $0.375, the lowest ATC given.
• If the normal rate of profit is 10%, the accounting profit will be
approximately 3.4 cents per unit.
The Long Run in Pure Competition
• In the long run
• Firms can expand or contract
capacity
• Firms enter and exit the industry
LO1
9-4
Profit Maximization in the Long Run
• Easy entry and exit
• The only long-run adjustment we consider
• Identical costs
• All firms in the industry have identical costs
• Constant-cost industry
• Entry and exit do not affect resource priceseach firm insignificant to the industry. For
example, the exit of a farmer is hardly
noticed. OR, the industry USES very little of
the total resources.
LO2
9-5
Long-Run Equilibrium
•
•
LO3
Entry eliminates profits
• Firms enter
• Supply increases
• Price falls
• Profits lost, end back at l-r equil.
Exit eliminates losses
• Firms exit
• Supply decreases
• Price rises
• End back at l-r equil.
9-6
Entry Eliminates Economic Profits
P
P
S1
MC
ATC
$60
50
MR
40
S2
$60
50
D2
40
D1
0
100
(a)
Single Firm
LO3
q
0
80,000 90,000 100,000
Q
(b)
Industry
9-7
Exit Eliminates Losses
P
P
S3
MC
ATC
$60
S1
$60
50
50
MR
D1
40
40
D3
0
100
(a)
Single Firm
LO3
q
0
80,000
90,000
100,000 Q
(b)
Industry
9-8
Long Run Supply
•
•
•
LO4
Constant cost industry
• Entry/exit does not affect LR ATC
• Constant resource price
• Special case
Increasing cost industry
• Most industries-when firms enter and purchase resources,
resource prices rise on ALL firms, so ATC shifts upward.
• LR ATC increases with expansion
• Specialized resources
Decreasing cost industry-an example would be computersmore companies caused a SIGNIFICANT increase in
resources (components). Decreased production costs
reduced atc and the prices of computers declined.
9-9
LR Supply: Constant-Cost Industry
P
P1
P2 $50
Z3
Z1
Z2
S
P3
D1
D3
0
LO4
Q3
90,000
Q1
100,000
D2
Q2
110,000
Q
9-10
LR Supply: Increasing-Cost Industry
P
S
P2 $55
Y2
P1 $50
Y1
P3 $40
Y3
D2
D1
D3
0
LO4
Q3
90,000
Q1
100,000
Q2
110,000
Q
9-11
LR Supply: Decreasing-Cost Industry
P
P3 $55
X3
X1
P1 $50
X2
P2 $40
D3
S
D2
D1
0
LO4
Q3
90,000
Q1
100,000
Q2
110,000
Q
9-12
Pure Competition and Efficiency
• In the long run, efficiency is achieved
• Productive efficiency
• Producing where P = min. ATC
• Producing in the least costly way
• Allocative efficiency
• Producing where P = MC
• Producing the quantity society most
wants
• mb=mc at equilibrium
LO5
9-13
Pure Competition and Efficiency
Single Firm
Market
P=MC=Minimum
ATC (Normal Profit) MC
Consumer
Surplus
S
Price
Price
ATC
P
MR P
Producer
Surplus
D
0
LO5
Qf
Quantity
0
Qe
Quantity
9-14
Dynamic Adjustments
•
•
LO6
Purely competitive markets will automatically adjust to
• Changes in consumer tastes
• People want cucumbers so demand rises and
p>mc. Efficiency will be lost, but new firms will
enter the industry to profit. ALSO, resources
will be pulled away from watermelons to
produce the increased supply of cucumbers.
• Resource supplies-when prices change, firms will
have to figure out how to produce where mr=mc.
• Technology-new means lower prod. costs (lower atc)
Recall the “Invisible Hand”-for private goods with no
externalities.
9-15
Technological Advance: Competition
• Entrepreneurs would like to increase
profits beyond just a normal profit
• Decrease costs by innovating
• New product development
LO6
9-16
Creative Destruction
• Competition and innovation may lead
to “creative destruction”
• Creation of new products and
methods destroys the old products
and methods
LO6
9-17
Efficiency Gains from Entry
• Patent protected prescription drugs earn
•
substantial economic profits for the
pharmaceutical company
Generic drugs become available as the
patent expires on the existing drug
• Results in a 30-40% reduction price
• Greater consumer surplus and
efficiency
9-18
Efficiency Gains from Entry
a
S
P1
b
c
d
f
P2
D
Q1
Q2
9-19