1. Chapter 10 Pure Competition in the Short Run Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

2. 10-2 Four Market Models Pure competition Pure monopoly Monopolistic competition Oligopoly Pure Competition Monopolistic Competition Oligopoly Pure Monopoly Market Structure Continuum LO1

3. 10-3 Four Market Models Characteristics of the Four Basic Market Models Characteristic Pure CompetitionMonopolistic CompetitionOligopolyMonopoly Number of firmsA very large number ManyFewOne Type of productStandardizedDifferentiatedStandardized or differentiated Unique; no close subs. Control over priceNoneSome, but within rather narrow limits Limited by mutual inter-dependence; considerable with collusion Considerable Conditions of entryVery easy, no obstacles Relatively easySignificant obstaclesBlocked Nonprice Competition NoneConsiderable emphasis on advertising, brand names, trademarks Typically a great deal, particularly with product differentiation Mostly public relation advertising ExamplesAgricultureRetail trade, dresses, shoesSteel, auto, farm implements Local utilities

4. 10-4 Pure Competition: Characteristics Very large numbers of sellers Standardized product “Price takers” Easy entry and exit LO2

5. 10-5 Purely Competitive Demand Perfectly elastic demand Firm produces as much or little as they wish at the market price Demand graphs as horizontal line LO3

6. 10-6 Average, Total, and Marginal Revenue Average revenue Revenue per unit AR = TR/Q = P Total revenue TR = P X Q Marginal revenue Extra revenue from 1 more unit MR = ΔTR/ΔQ LO3

7. 10-7 Average, Total, and Marginal Revenue 42681012 $1179 131 262 524 655 786 917 1048 393 TR D = MR = AR Quantity demanded (sold) Price and revenue Firm’s Demand Schedule (Average Revenue) Firm’s Revenue Data PQDQD TRMR $131 131 0 1 2 3 4 5 6 7 8 9 10 $0 131 262 393 524 655 786 917 1048 1179 1310 $131 131 ] ] ] ] ] ] ] ] ] ]

8. 10-8 Profit Maximization: TR – TC Approach The competitive producer will ask three questions Should the firm produce? If so, in what amount? What economic profit (loss) will be realized? LO4

9. 10-9 Profit Maximization: TR-TC Approach LO3 The Profit-Maximizing Output for a Purely Competitive Firm: Total Revenue – Total Cost Approach (Price = $131) (1) Total Product (Output) (Q) (2) Total Fixed Cost (TFC) (3) Total Variable Costs (TVC) (4) Total Cost (TC) (5) Total Revenue (TR) (6) Profit (+) or Loss (-) 0$100$0$100$0$-100 110090190131-59 2100170270262-8 3100240340393+53 4100300400524+124 5100370470655+185 6100450550786+236 7100540640917+277 81006507501048+298 91007808801179+299 1010093010301310+280

10. 10-10 Profit Maximization: TR–TC Approach 10234567891011121314 10234567891011121314 $1800 1700 1600 1500 1400 1300 1200 1100 1000 900 800 700 600 500 400 300 200 100 $500 400 300 200 100 Total revenue and total cost Total economic profit Quantity demanded (sold ) Total revenue, (TR) Break-even point (Normal profit) Break-even point (Normal profit) Maximum economic profit $299 Total economic profit $299 P=$131 Total cost, (TC) LO4

11. 10-11 Profit Maximization: MR-MC Approach LO3 The Profit-Maximizing Output for a Purely Competitive Firm: Marginal Revenue – Marginal Cost Approach (Price = $131) (1) Total Product (Output) (2) Average Fixed Cost (AFC) (3) Average Variable Costs (AVC) (4) Average Total Cost (ATC) (5) Marginal Cost (MC) (5) Price = Marginal Revenue (MR) (6) Total Economic Profit (+) or Loss (-) 0$-100 1$100.00$90.00$190$90$131-59 250.0085.0013580131-8 333.3380.00113.3370131+53 425.0075.00100.0060131+124 520.0074.0094.0070131+185 616.6775.0091.6780131+236 714.2977.1491.4390131+277 812.5081.2593.75110131+298 911.1186.6797.78130131+299 1010.0093.00103.00150131+280

12. 10-12 Profit Maximization: MR-MC Approach Cost and revenue $200 150 100 50 0 12345678910 Output Economic profit MR = P MC MR = MC AVC ATC P=$131 A=$97.78 LO5

13. 10-13 Loss-Minimizing Case Loss minimization Still produce because MR > minimum AVC Losses at a minimum where MR = MC Producing adds more to revenue than to costs LO5

14. 10-14 Loss-Minimizing Case Cost and revenue $200 150 100 50 0 12345678910 Output Loss MR = P MC AVC ATC P=$81 A=$91.67 V = $75 LO5

15. 10-15 Shutdown Case Cost and revenue $200 150 100 50 0 12345678910 Output MR = P MC AVC ATC P=$71 V = $74 Short-run shut down point P < minimum AVC $71 < $74 LO5

16. 10-16 Marginal Cost and Short Run Supply The Supply Schedule of a Competitive Firm Confronted with Cost Data from Table Price Quantity Supplied Maximum Profit (+) Minimum Loss (-) $15110$+480 1319+299 1118+138 917-3 816-64 710-100 610-100 LO6

17. 10-17 Marginal Cost and Short-Run Supply P1P1 0 Cost and revenues (dollars) Quantity supplied MR 1 P2P2 MR 2 P3P3 MR 3 P4P4 MR 4 P5P5 MR 5 MC AVC ATC Q2Q2 Q3Q3 Q4Q4 Q5Q5 a b c d e LO6

18. 10-18 Marginal Cost and Short-Run Supply P1P1 0 Cost and revenues (dollars) Quantity supplied MR 1 P2P2 MR 2 P3P3 MR 3 P4P4 MR 4 P5P5 MR 5 MC AVC ATC Q2Q2 Q3Q3 Q4Q4 Q5Q5 a b c d e S Shut-down point (If P is below) LO6

19. 10-19 3 Production Questions LO3 Output Determination in Pure Competition in the Short Run QuestionAnswer Should this firm produce?Yes, if price is equal to, or greater than, minimum average variable cost. This means that the firm is profitable or that its losses are less than its fixed cost. What quantity should this firm produce?Produce where MR (=P) = MC; there, profit is maximized (TR exceeds TC by a maximum amount) or loss is minimized. Will production result in economic profit?Yes, if price exceeds average total cost (TR will exceed TC). No, if average total cost exceeds price (TC will exceed TR). LO6

20. 10-20 Firm and Industry: Equilibrium LO4 Firm and Market Supply and Market Demand (1) Quantity Supplied, Single Firm (2) Total Quantity Supplied, 1000 Firms (3) Product Price (4) Total Quantity Demanded 1010,000$1514000 990001316000 880001118000 77000919000 660008111,000 007113,000 006116,000 LO6

21. 10-21 Firm versus Industry: Equilibrium Economic profit d ATC AVC s = MC $111 D S = ∑ MC’s 8 8000 LO6

22. 10-22 Fixed Costs: Digging Out of a Hole Shutting down in the short run does not mean shutting down forever Low prices can be temporary Some firms switch production on and off depending on the market price Examples: oil producers, resorts, and firms that shut down during a recession