Chapter+14-+Firms+in+Competitive+Markets




 * Words to keep in mind: **
 * **average revenue** || total revenue divided by the quantity sold ||
 * **competitive market** || a market with many buyers and sellers trading identical products so that each buyer and seller is a price taker ||
 * **marginal revenue** || the change in total revenue from an additional unit sold ||
 * **sunk cost** || a cost that has already been committed and cannot be recovered ||

Introduction: In this chapter, we will learn about the behavior of competitive firms. If a firm can influence the market price, it is known as the market power. We will also go over the behavior of firms with market power. Keep in mind that the market supple curve is closely related to the cost of production.

If a firm can influence the market price of the good it sells, it has "market power." - Competitive market (perfectly competitive market) - Goal: maximize profit (Total revenue - Total cost) - Many buyers and sellers (price takers = accept the price the market determines) - Homogeneous product - Firms can freely enter or exit the market (shape the LR outcome)
 * What is a competitive market? **

- Analyzing revenue of the competitive firm - Total revenue = P(fixed cost) X Q - If the firm is small compared to the world market, it takes the price as given by the market conditions. - Price doesn't depend on the quantity of output. - If quantity rises, the total revenue rises. - Total revenue is proportional to the quantity of output. - For average revenue, consider this question: How much revenue does the firm receive for the typical unit sold? - For all firms, total revenue (P/Q)/Quantity = Price. - Average revenue = price. - For **marginal revenue**, consider this question: How much change is there in total revenue from the sale of each additional unit of output? - For competitive firms, Total revenue = P (fixed cost) *Q and when Q rises by 1 unit, total revenue rises by P.  - Marginal revenue = price

**Profit maximization and the competitive firm's supply curve ** Profit Maximization - One way: - Total cost = Fixed cost - Variable cost (quantity produced) - Profit = Total Revenue - Total Cost - Second way: -  Change in profit = Marginal revenue – Marginal cost = 0 - Marginal revenue > Marginal cost - Raise Profit - Marginal Cost Curve & Firm's Supply Decision - Marginal Cost Curve: upward - Average Total Cost Curve: U-shaped - MC crosses ATC at the minimum of ATC - Average Variable Cost Curve - ** Price (price taker) = M ** arginal **R**evenue = **A**verage **R**evenue - Q1 = **MR>MC, raising production increase profit** - Q2 = **MRMC, increase production - New profit-maximizing quantity Q2 - Because MC curve determines the quantity of the good the firm is willing to supply at any price, **MC curve = competitive firm’s Supply Curve** 

**Firm's Short-Run Decision to Shut Down ** Shutdown  - Short-run decision not to produce anything during a specific period of time because of current market conditions - Pay fixed cost (or, sunk cost) - Loses all revenue from the sale of its product - Saves the variable costs of making its product - What determines a firm to shutdown? - TR < VC (costs that do vary with the quantity of output produced) - TR/Q < VC/Q - AR < AVC - P < AVC - If the price of the good is less than the AVC of production - Reopen when conditions change so that P > AVC  Sunk Cost  - A cost that has already been committed and can't be recovered.



<span style="font-family: Verdana,Geneva,sans-serif;">**<span style="color: #009fff; font-family: Verdana,Geneva,sans-serif; font-size: 110%;">Firm's Long-Run Decision to Exit or Enter a Market ** <span style="color: #009fff; font-family: Verdana,Geneva,sans-serif;">Exit <span style="font-family: Verdana,Geneva,sans-serif;"> - Long-run decision to leave the market. - Loses all revenue from the sale of its product. - Save variable cost & fixed cost because they can sell the land.

//What determines a firm to exit?// - TR < TC - TR/Q < TC/Q - AR < ATC - P < ATC - If the price of the good is less than the ATC of production.

//What determines a firm to enter?// - TR > TC - TR/Q > TC/Q - AR > ATC - P > ATC - If the price of the good is more than the ATC of production.

//What determines a firm to enter?// - TR > TC - TR/Q > TC/Q - AR > ATC - P > ATC - If the price of the good is more than the ATC of production.

<span style="color: #009fff; font-family: Verdana,Geneva,sans-serif;">Measuring profit graph for the competitive firm <span style="font-family: Verdana,Geneva,sans-serif;"> - Profit = TR – TC - Profit = (TR/Q – TC/Q) * Q - Profit = (AR – ATC) * Q - <span style="color: #000000; font-family: Verdana,Geneva,sans-serif; font-size: 99%;">Profit = (P – ATC) * Q

<span style="font-family: Verdana,Geneva,sans-serif;"><span style="color: #009fff; font-family: Verdana,Geneva,sans-serif;">Short-Run - Market with a fixed number of firms - When P > AVC, MC is the Supply curve - Q of output supplied = Sum of the quantities supplied by each firm
 * <span style="color: #009fff; font-family: Verdana,Geneva,sans-serif; font-size: 120%;">The Supply Curve in a Competitive Market **<span style="color: #000000; font-family: Verdana,Geneva,sans-serif;">

Long-Run - Market in which the number of firms can change as old firms exit the market and new firms enter. - Decisions about entry and exit depend on the incentives facing the owners of existing firms and the entrepreneurs who could start new firms. - If the original firms are profitable, new firms enter. - Expand the number of firms - Increase the quantity of the good supplied - Decrease prices and profits - If the original firms are making losses, firms will exit. - Reduce the number of firms - Decrease the quantity of the good supplied - Increase prices and profits - At the end, firms that remain in the market must be making **zero economic profit**. - Profit = (P – ATC) * Q - Zero profit if and only if the P = ATC - P > ATC, profit - P < ATC, loss (encourage firms to exit) - Process of entry and exit ends only when P = ATC - Long-Run equilibrium of a competitive market with free entry and exit must have firms operating at their efficient scale. - Firms maximize profit when P = MC - Free entry and exit forces P = ATC - MC = ATC, only when firm is operating at the minimum of ATC (efficient scale)

Equilibrium - P = MC, firm is profit-maximizing - P = ATC, profits are zero - No incentives to enter or exit - Only one price consistent = minimum of ATC - Long-Run market supply curve = horizontal at the price (perfectly elastic supply)

<span style="font-family: Verdana,Geneva,sans-serif;">**<span style="color: #009fff; font-family: Verdana,Geneva,sans-serif; font-size: 110%;">A Shift in Demand in the Short-Run and Long-Run ** - The response of a market to a change in demand depends on the time horizon. - Increase in demand raises P and Q, making more profit, in SR - Encourages new firms to enter - Increase the amount of product - Decrease the price to the minimum of ATC - Profits are zero - Firms stop enter - Reaches new Long-Run equilibrium - P returned to the original, but Q is raised. - Producing at its efficient scale, but since more firms joined, Q is raised.

To **review** this section, lets look at this video: media type="youtube" key="Hsqvj4THPtw" height="344" width="425" align="center"

Conclusion: From this chapter, we have learned about the behavior of profit maximizing firms in the perfect competitive markets. When we buy a good from a firm, the price is very similar to the cost of producing that good. Also, when the firms are both competitive and profit maximizing, the price equals the margical cost of the good. Overall, we have focused mainly on the behavior of firms in competitive markets in this chapter.


 * <span style="color: #009fff; font-family: Verdana,Geneva,sans-serif; font-size: 110%;">Bibliography 14 **