1. Perfect Competition Many (small) firms, producing a homogeneous (identical) product, none of which having an impact on the price; each firm's product is non-distinguishable from other firms' product. b. Many buyers none of whom having any effect on the price. c. No barriers to entry and exit: in the long run firms can shut down and leave the industry or new firms can come into the industry freely. d. No interference in the market process: No price control or restrictions on production e. All firms have equal and complete access to the available inputs (input markets) and production technology; all firms have the same production and cost functions. f. All sellers and buyers have perfect information about the market conditions. g. Making above-normal profits by existing firms will result in new entries into the industry. Firms that have losses shut down and leave the industry in the long run.

2. How is the market price Determined? Market Supply: The (horizontal) sum of individual supply curves Market Demand: The (horizontal) sum of individual demand curves

3. P P 0 0 QQ Dm Sm o popo p1p1 Sm 1 DoDo D1D1 S qoqo q1q1 MarketA typical firm

4. Perfect Competition:Profit Maximization in the Short Run An individual firm takes the market price as given; the demand each individual firm faces is horizontal. MR = P: Demand Set the price equal to MC In the short- run the firm could have an economic profit

5. 0 Q $ SMC SATC AVC Pm a b c Qe DfDf, MR Profit Maximization in the Short Run

6. Adjustments in the Long Run If economic profits are present new firms will come into the industry The Market price will fall The profit shrinks Input prices may go up Firms try to stay profitable by taking advantage of economies of scale Firms adopt an optimal size Economic profits tend toward zero

7. Sm o Qm Pm1 Pm2 Pm3 Pm4 Sm 1 Sm 2 Sm 3 Sm 4 Q4 Q3 Q2 Q1 Qo $ MARKET o Dm

8. LATC D Pm Qe Q o SAC 1 SAC 2 SAC 3 SAC 4 A competitive firm’s long-run equilibrium

9. Long-Run Equilibrium in a Perfectly Competitive Market o o Q $P $ Dm Sm LATC SATC 1 SATC 2 SATC 3 DfDf Qe Pe MC 2 Market A typical firm

10. Long-Run Equilibrium under Perfect Competition Many “optimal-size” firms, each producing at the minimum long run average cost and charging the market price where: P = MR= MC = SATC = LATC Allocative efficiency: MC = P Productive efficiency: MC= SATC = LATC Zero economic profit (normal profit) : P = ATC

11. Pure Monopoly A single firm producing a homogenous or differentiated (unique) good and facing the market demand. No substitutes No new entries allowed The monopoly is a price maker P>MR Possibility of a sustained economic profit

12. What circumstances lead to the formation of a monopoly? Extensive economies of scale: natural monopolies Exclusive patent rights Copy rights to intellectual properties Government franchises Exclusive access to a essential resource (input) Cartels A monopoly is a profit maximizer too!

13. $ Q Q $ Dm MR 0 0 TR a -2b -b Demand Faced by A Monopoly

14. SMC SATC D MR P Qe Q $ k m n o c Qc

15. The Dynamics of a Monopolistic Market As a profit maximizer a monopoly may try to take advantage of economies of scale A monopoly tends to try to protect its monopolistic position A monopoly may take advantage of technological advances A monopoly may face changes in demand A monopoly may try to promote its product to maintain demand

16. SMC SATC D MR P Qe Q $ n o LATC k m L-R Positive Economic Profit ATC>MC, P>MR, P>MC, P>ATC

17. Monopolies and Profit Maximization A monopoly faces the industry demand curve To maximize profit: MR = MC P = 80 -.0008Q ; MR = 80 -.0016Q TC = 10,000 +.0092Q 2 ; MC =.0184 Q Set MR = MC  Q = 4000; P = 76.8 Profit = 307,200 – 147,200 – 10,000 = 150,000 Profit = (P- ATC). Q

18. Things Change Demand may go down Cost could increase In an attempt to keep the potential competitors out, the monopolist may lower its price to near its average cost Rent seeking: an attempt to maintain its monopolistic position by influencing the political processes-e.g., zoning laws Closer substitutes may emerge

19. SMC SATC D MR P Qe Q $ o LATC L-R Zero Economic Profit ATC>MC, P>MR, P>MC, P = ATC

20. The Case of Natural Monopolies A natural monopoly emerges out of competition among firms in an industry with extensive economies of scale; the downward-sloping segment of the LATC curve extends to or beyond the market capacity (or market demand). Smaller firms are gradually driven out by the larger (more efficient) firms. The surviving firm would become a (natural) monopoly. If unchecked, a natural monopoly behaves like a monopoly; it under-produces and overcharges.

21. SAC 1 SAC 2 SAC 3 o Q $ D Natural Monopolies LAC Q1 Q2 Q3

22. SAC o Q $ D Natural Monopolies Monopoly Pricing LATC MR SMC LMC Pm QcQm AC p

23. MC Q o Pc Pm QmQc A Comparison D MR $

24. Price Discrimination Segmenting the market into separate classifications or regions Assuming that each class of consumers have different demand, a monopoly can charge different prices in each market segment To price-discriminate The firm must identify consumer groups/classes with different downward-sloping demand curves The firm must be able to prevent consumers of one class from reselling its product to the consumers of another class; no intermarket redistribution of the product is allowed

25. $ D MR D` MR MC, ATV o QQ P` P QQ Price Discrimination

26. Monopsony vs. Monopoly MRPL:D L MR L MC L SLSL Wu o EuEc Wc Wm Em

27. Cartels Q Industry ΣMC Dm MR P,C P oo Firm A Firm B o QBQB QAQA MC A MC B ATC A ATC B P,C