Competitive Markets.

Presentation on theme: "Competitive Markets."— Presentation transcript:

Competitive Markets

Structure Fragmented Undifferentiated Products : Homogeneous

Three Implication Price Takers Law of one Price Free Entry & Free Exit

Profit Maximization Profit Maximization Condition

TC TR Q TR,TC Profit MC MR = P MC > MR MC = MR MC < MR

Price Q AR = P = MR D Firm Industry

AVC AC MC P1 A C Q Price MR = P B Excess Profit

AVC AC MC P1 A C Q Price MR = P

AVC AC MC P1 A C Q Price MR = P B Loss

AVC AC MC P1 A C Q Price MR = P B Loss

AVC AC MC P1 A C Q Price MR = P B Loss

AVC AC MC P1 P2 P3 P4 Q Price Shut Down Point

AVC AC MC P1 P2 P3 P4 Q Price Shut Down Point Firm’s Supply

The Firm’s short run total cost curve is STC = 100 +20Q + Q2.
Example The Firm’s short run total cost curve is STC = Q + Q2. The short run Marginal cost curve is SMC = Q If SFC = 100, while SVC = 20Q + Q2 Find AVC , Minimum level of average variable cost, supply curve

Fixed Cost + Sunk Cost TFC = SFC + NSFC

Price MC AC ANSC AVC B C P1 Minimum ANSC = P A Q Q

The Firm’s short run total cost curve is STC = 100 +20Q + Q2.
Example The Firm’s short run total cost curve is STC = Q + Q2. The short run Marginal cost curve is SMC = Q If SFC = 36, while NSFC = 64 Find ANSC , Minimum level of average non sunk cost, supply curve

Firm Supply and Market Supply
Q1 Q2 Q1+Q2 Q P

Short Run perfectly Competitive equilibrium
D S D(P*) SAC Q* Q P P*

STC = 0.1 + 150Q2 , all fixed cost are sunk.
The Market consists of 300 identical firms, and the market demand curve is given by D(P) = 60 – P. Each firm has a short run cost curve STC = Q2 , all fixed cost are sunk. The corresponding short run marginal cost curve SMC = 300Q. The corresponding average variable cost curve is AVC = 150Q. You should verify that the minimum level of AVC is 0. Thus, a firm will continue to produce as large as price is positive Find Short run equilibrium in market, at equilibrium, do the firm make positive profit?

Comparative Statics in short run
Increase in the number of firm D S Q1 SAC Q1f Q P P1 S’ Q2 P2 Q2f

Price Quantity P1 SAC1 MC1 SAC2 MC2 LAC LMC Q1 Q2

Long Run Supply Curve Price Quantity P1 LAC LMC Q1 Q2 Q* P2 P*

Long Run Supply Curve Price Quantity P1 LAC LMC Q1 Q2 Q* P2 P*

Free Entry and Long Run P* = MC ( Q* ) P* = AC ( Q* )
1. Long Run Profit is maximized with respect to output and plant size. P* = MC ( Q* ) 2. Economic profit is Zero. P* = AC ( Q* )

Free Entry and Long Run 3. Demand equals Supply. D( P* ) = n Q* D S
LAC Q* Q P P* SAC LMC SMC

In this market, each firm and potential entrant has a long – run average cost
AC( Q ) = 40 – Q – 0.01Q2. And a corresponding long run marginal cost curve MC( Q ) = 40 – 2Q Q2. Where Q is thousand units per year. The Market demand curve is D( P ) = 25,000 – 1,000P, Where D(P) is also measured in thousand units. Find the long run equilibrium price, quantity per firm, and number of firms.

Long Run Market Supply Curve
D S Q1 LAC Q1f Q P P1 SAC LMC S’ D’ P2 Q2f Q2 A B

Industry Long Run Supply Curve
Constant Cost D S Q1 LAC Q1f Q P P1 LMC S’ D’ P2 Q2f Q2 A B SL

Industry Long Run Supply Curve
Q1 LAC1 Q1f Q P P1 LMC1 S’ D’ P2 Q2f Q2 SL Increasing Cost P3 LMC2 LAC2

STC ( Q ) = 16 + Q2 SMC ( Q ) = 2Q D ( P ) = 110 – P
Problem 1 The bolt industry currently consists of 20 producers, all of whom operate with identical short run total cost function STC ( Q ) = 16 + Q2 Where Q is the annual output. The corresponding short run marginal cost curve is SMC ( Q ) = 2Q The market demand for the bolts is D ( P ) = 110 – P Where P is the market price

a ) Assuming that all of the firm fixed cost is sunk, what is the firm’s short run supply curve?
b ) What is the short run market supply curve? c ) Determine the short run equilibrium price and quantity in the industry.

The corresponding long run average cost function is
Problem 2 Propylene is used to make plastic. The propylene industry is perfectly competitive, and each producer has a long run marginal cost function given by MC ( Q ) = 40 – 12Q + Q2 The corresponding long run average cost function is AC ( Q ) = 40 – 6Q + (1/3)Q2 The market demand curve for propylene is D ( P ) = 2200 – 100P

a ) What is long run equilibrium price in the industry?
b ) At this price, how much would an individual firm produce? c ) How many firms are in the propylene market in long run competitive equilibrium. d ) Suppose the demand curve shifted so that it is now D ( P ) = A – 100P. How large would A have to be so that in the new long run competitive equilibrium, the number of propylene firms was twice what it was in the initial long run equilibrium?.

The long run total cost function for producers of mineral water is
Problem 3 The long run total cost function for producers of mineral water is TC ( Q ) = cQ Where Q is the output of individual firm expressed as thousand liters per year. The market demand curve is D ( P ) = a – bP Find the long run equilibrium price and quantity in term of a, b, c, . Can you determine the equilibrium number of firms? If so, what is it? Why not?