3.4.2 Perfect competition

What is perfect competiton?

A market with:

1) Many small buyers and sellers

2) No barriers to entry or exit

3) Sell homogeneous goods

4) Perfect information

What is an example of a perfectly competitive market?

Mango market

What does it mean if there are no barriers to entry or exit?

No economies of scale, no sunk costs, no patents

What are homogeneous goods?

All goods must be the same

What is perfect information?

Consumers know all the prices different firms charge, producers know how other producers produce their goods

What is the PED in a perfectly competitve market?

Perfectly elastic

Why is the PED in a perfectly competitive market perfectly elastic?

If the price were to go up, even by 1p, quantity demanded will drop down to 0 purely because there are many other sellers of the exact same products. Consumers will switch to a cheaper seller therefore they are very responsive to changes in price

What does the MR and AR curve look like on a diagram in a perfectly competitive market?

Are firms price makers or price takers in a perfectly competitive market?

A perfectly competitive firm has a perfectly elastic demand curve which means they have to take the market price. Therefore, firms will be PRICE TAKERS

Draw the diagram to model a perfectly competitive market.

What is the diagram of a perfectly competitive market in the short run?

What is the diagram of a perfectly competitive market in the long run?

Explain how a perfectly competitive market moves to its long run equilibrium

In the long run, perfect information means potential sellers outside the market will see the opportunity to make supernormal profit by entering the market

There are no barriers to entry, so new firms will enter the market increasing supply and decreasing price until AR touches the bottom of the firms AC curve and all the supernormal profit is gone

New firms will no longer enter the market because they can no longer make supernormal profit, so we have reached the long run equilibrium

Explain how a perfectly competitive market moves to its long run equilibrium, even if its making a loss in the short run

If AC>AR fiems will be making a loss. As there are no barriers to exit, firms can easily leave the market. This will lead to a left shift in supply which will lead to an increase in price. The price will continue to increase until firms make a normal profit. Firms will have no reason to exit the market as they are now covering their opportunity cost, so long run market equilibrium has been reached

Model an increase in supply and its impact in the long run