3 2 Learning GoalsDetermine when a firm will temporarily or permanently go out of businessExplain the process of competition and identify the effects on consumers and producers
4 “It is competition that drives down costs and prices, induces firms to produce the goods consumers want, and spurs innovation and the expansion of new markets…”President’s Council of Economic Advisors
6 Skim this sectionFocus on “competition as a dynamic process”
7 What are the Characteristics of Price-Taker Markets?
8 A price taker must set price equal to the market equilibrium price because: Each firm is small relative to the marketEach firm sells an identical productThere are many buyers in the marketNo barriers to entry/exit exist
10 The firm’s decision is a two-step process: (1) Decide to open or close(2) If open, decide how much to produceClass Activity: Why are some stores like Wal-Mart open 24 hours while others like Nuberri are not?
11 (1) Decide to open or close Consider this scenario:Fixed costs $20,000Variable costs $30,000Total revenue $40,0002 Transmitter Questions NextFor the next two questions, discuss your suggested answer with your neighbors before answering
12 Q 9. 1. Fixed costs. $20,000. Variable costs. $30,000. Total revenue Q Fixed costs $20,000 Variable costs $30,000 Total revenue $40,000 If the firm closes, how much is profit?$20,000$10,000$0-$20,00059
13 Q9. 2. Fixed costs. $20,000. Variable costs. $30,000. Total revenue Q9.2 Fixed costs $20,000 Variable costs $30,000 Total revenue $40,000 If the firm stays open, how much is profit?$20,000$10,000-$10,000-$20,00059
14 So, the decision rule for (1) is as follows: Close if the firm can’t pay variable costsMore specifically, close if:(1) MR < AVC, or(2) TR < TVC
15 (2) If open, decide how much to produce Continue to engage in an activity as long as the expected marginal benefit is greater than the expected marginal costSpecifically, keep producing as long as MR > MCClass Activity: Economics is Everywhere 8.7
16 The Wall Street Journal tells of jet-setters who are deserting South Beach in Miami because the trendy clubs there have become less exclusive. How exclusive should a club be? Each club faces a profit-maximizing decision, just as firms do. So do professional associations that award honors to their members. If there is too little exclusivity, existing members will feel that belonging to the club is not worthwhile. Too many awards, and previous recipients feel their prize has been devalued. Each club or association should continue to admit people or give out awards until the marginal value to the association or club of having one more member or one more recipient of an award falls below the cost to the club in lost membership or in disgruntled prior winners of its awards.
22 charge more than the market price. Q9.3 When the marginal cost of a firm is more than the market price of its product, the firm shouldexpand output.reduce output.maintain output.charge more than the market price.59
23 raise its prices during the winter months. Q9.4 If an amusement park that is highly profitable during the summer months is unable to cover its variable costs during the winter months, which of the following would be the best alternative?raise its prices during the winter months.lower its prices during the summer months.operate during the summer, but shut down during the winter months.operate during all months of the year as long as its profits during the summer exceed its losses during the winter.59
24 Shut down rules:Close temporarily if you expect to cover variable costs in the near futureClose permanently if you don’t expect to cover variable costs in the near future
25 Video (viewer discretion advised): This is scary!
39 Here are the main points I want you to understand Why economists like competition:Costs are reducedPrices are reducedFirms become more efficient and have a stronger incentive to innovateResources are moved from unproductive areas to productive areas
43 Q9.5 The dynamic process of competition is hindered by the self-interest of business decision makers.puts the profit motive of sellers to work for buyers.conflicts with the interest of consumers when businesses pursue profit rather than the public interest.will permit business decision makers to earn long-run economic profit unless they are regulated by government.59
44 2 Learning GoalsDetermine when a firm will temporarily or permanently go out of businessExplain the process of competition and identify the effects on consumers and producers