ECN201 - M1 - Profit Maximization in Perfectly Competitive Markets

Perfect Competition

A market structure characterized by a large number of buyers and sellers, free entry and exit, product homogeneity, and perfect information.

Profit Maximization

The assumption that firms choose their output level to maximize profit, defined as the difference between revenue and cost.

Price Taker

A firm that accepts the market price as given and does not influence the price through its output decisions.

Short-Run Supply Curve

A graph representing the relationship between a product’s price and a firm’s most profitable output level, derived from the firm’s marginal cost curve.

Total Revenue (TR)

The total income a firm receives from selling its output, calculated as price times quantity sold.

Average Revenue (AR)

Total revenue divided by the quantity sold, representing the revenue earned per unit.

Marginal Revenue (MR)

The change in total revenue resulting from a one-unit change in output; for competitive firms, MR equals the market price.

Shutdown Point

The minimum level of average variable cost below which a firm will cease operations in the short run.

Long-Run Competitive Equilibrium

A state in which firms produce at an efficient scale with zero economic profit, and there is no incentive for firms to enter or leave the industry.

Increasing-Cost Industry

An industry where output expansion leads to higher long-run average production costs, resulting in an upward-sloping long-run supply curve.

Constant-Cost Industry

An industry where output expansion does not affect input prices, leading to a horizontal long-run supply curve.

Decreasing-Cost Industry

An industry where output expansion results in lower long-run average production costs, producing a downward-sloping long-run supply curve.

Survivor Principle

The observation that firms in competitive markets that do not behave profit-maximizing will fail, and those that do survive.

Short-Run Profit Maximization

Occurs when a firm's marginal revenue equals marginal cost, maximizing profit at that output level.

Operating at a Loss

The situation where a firm's average total cost exceeds its average revenue at the output level where marginal cost equals marginal revenue.

Market Price

The price determined by the interaction of the market demand curve and the short-run industry supply curve.

Diminishing Marginal Returns

The principle that as more of a variable input is added to a fixed input, the additional output generated from each new input will eventually decline.

Short-Run Industry Supply Curve

Created by summing the outputs produced by individual firms based on their respective marginal cost curves.