1.5.3 perfect competition

a level aqa microeconomics

characteristics of a perfectly competitive market

large number of buyers and sellers, homogeneous products, no barriers to entry or exit, perfect information, firms are price takers

perfect competition in SR

firm takes market price P, producing at output Q where MC=MR, AR>AC so abnormal profit made

perfect competition pricing

firms are price takers, AR=AC, charging above means no sales and charging below means not maximising profit

perfect competition in LR

no barriers to entry so new firms join market to make abnormal profit, market supply curve shifts out, market price falls and profit maximising output falls, at new price only normal profit is made, all abnormal profit is competed away by entrance of new firms

perfect competition productive efficiency

productively efficient in LR, only productively efficient firms make a normal profit in LR, produce at lowest point on AC

perfect competition allocative efficiency

allocatively efficient in SR and LR, for a price taker P=MR so when MC=MR, P=MC

perfect competition dynamic efficiency

not dynamically efficient, firms make homogeneous products, little scope for innovation, normal profit doesn’t allow for investment into R&D, training

perfect competition advantages

high degree of competition means resources allocated to most efficiency use (P=MC), productively efficient, lower prices for consumers, normal profit (AR=AC) made in LR

perfect competition disadvantages

no scope for dynamic efficiency, firms limited to normal profit in LR limiting potential for EOS

loss making

when AC>AR

losses in SR

can be made if loss is seen as temporary and demand in market can increase

losses in LR

a business needs to make at least a normal profit (P=AC) in LR to justify staying open

shutdown point

when no contribution is made towards fixed cost, loss increases with every unit sold, firm leaves industry

shutdown point

P<AVC

satisficing

managers aim to make enough profit to satisfy shareholders, part of principal-agent problem due to conflicting objectives of managers and shareholders, firms can survive if this takes place