1. LEARNING UNIT: 9
MARKET STRUCTURES:
PERFECT
COMPETITION

2. Learning Unit Objectives
List the conditions required for perfect competition to exist
Explain and draw the demand curve facing the firm under perfect competition
Determine the short run equilibrium position for the perfectly competitive firm
Explain when a company is making an economic profit, a normal profit or an economic loss.

3. Learning Unit Objectives
Explain the long run equilibrium of the firm and the industry under perfect competition.

4. Introduction
Firms operate under different market conditions and firms need to be familiar with these market conditions.
We will look at some of the main market structures starting with perfect competition.
We will discuss issues like profit maximisation and how many products a firm decides to sell.

5. Perfect Competition
Perfect Competition is where no single or consumer or producer can influence the market price.
Price is determined by the interaction of demand and supply.
All participants in a perfectly competitive market are therefore price takers.

6. Requirements for Perfect Competition
There must be a large number of buyers and sellers of the product.
There must be no collusion between sellers
All goods in the market should be identical ( no need to prefer 1 product to another)
Buyers and sellers must feel free to enter and exit the market.
Perfect knowledge
No Government Intervention
All FOP must be perfectly mobile

7. Firms Demand, Average Revenue & Marginal Revenue Curves
Under perfect competition the price of the product is determined by demand and supply.
The individual firm is a price taker and sells goods at a price determined by the market (demand and supply).
A firm wont sell goods at a higher or lower price.

8. Firms Demand, Average Revenue & Marginal Revenue Curves
Under a perfect competition an individual firm is faced with a horizontal demand curve.
*** Fig 9.1
We can say that an individual firms demand curve is perfectly elastic; meaning small changes in price result in infinite changes in quantity demanded.
Under perfect competition a firms MR and AR are equal.

9. Total Revenue Total Revenue (TR) = P x Q.
Under perfect competition, the firms TR will increase by an amount equal to the price of the product
** Fig 9.2

10. Total, Marginal and Average Revenue under perfect competition
Quantity
Price per Unit
Total Revenue
Marginal Revenue
Average Revenue 20 1 2 40 3 60 4 80 5
100

11. The Equilibrium position of a firm
The goal of any firm is to maximise profits.
Remember, economic profits is the difference between revenue and costs.
To get a better understanding of the behaviour of firms we must look at revenue and cost structures.

12. The equilibrium position of the firm
Once revenue and costs of the firm are known, 2 decisions can be taken:
The firm must decide whether its worth producing at all (Shut down rule
If it is worth producing, they must determine the level of production at which profit is maximised (profit maximisation rule).

13. Profit maximisation rules
There are 2 rules for profit maximisation which apply to firms:
Total cost- Total Revenue Approach
Marginal cost- Marginal Revenue Approach

14. Total Cost- Total Revenue Approach
A firm should only produce if its total revenue is greater than its total variable costs.
I.e. if its production costs are covered

15. Output (Q)
Total Cost
Marginal Cost
Average Cost
Price
Total Revenue
Total Profit
800 8
-800
100
2000 2 20
-1200
200
2300 3
11.50
1600
-700
300
2400 1
400
2524
1.25
6.31
3200
676
500
2775
2.5
5.55
4000
1225
600
4.25
5.33
4800
650
3600
5.40
5200
1690
700
4200 12
5.71
5600
6400 22

16. Profit Maximisation
** Fig 9.2

17. Marginal Cost- Marginal Revenue Approach
An alternative approach compares marginal costs and marginal revenue
If MC < MR → Produce
If MC > MR → Cut back on production. You are making a loss!!!
** Fig 9.3