F&D P2: Perfect Competition

What are the Types of Market Structure?

Perfect Competition, Monopolistic Competition, Oligopoly, Monopoly.

What is Perfect Competition (PC)? (Market Structure Definition)

A market structure with a large number of small firms relative to market size, homogeneous product, absence of barriers to entry and exit, and perfect information.

What is a Large number of buyers and sellers? (PC Characteristic)

Each firm has no significant share of total market output and acts independently, unable to influence price.

What are No barriers to entry and exit? (PC Characteristic)

New firms face no restrictions entering (e.g., low start-up costs) or exiting (no restrictions on making losses) the market.

What is a Homogeneous product? (PC Characteristic)

Product is identical to rivals', perfect substitutes. No non-price competition (advertising/quality differences).

What is Perfect Knowledge? (PC Characteristic)

All sellers and buyers have complete information about prices, production costs, quality, and availability of products/substitutes.

How do PC characteristics affect pricing decisions?

PC firms are price-takers because of large number of buyers/sellers, homogeneous product, and perfect knowledge.

What is a Price-Taker?

A firm that cannot influence the price of its good because its output is an insignificant part of total market demand.

What is the Demand for a Perfectly Competitive Firm's Product?

Perfectly price-elastic, represented by a horizontal straight line at market price (P = AR = MR).

What is Total Revenue (TR)?

Total receipts of a firm from selling goods and services (TR = P

What is Average Revenue (AR)?

Revenue per unit of output sold (AR = TR/Q = P).

What is Marginal Revenue (MR)?

Increase in revenue from selling an additional unit of output (MR = ΔTR/ΔQ).

What is the Profit-Maximising Equilibrium for a PC Firm? (Marginalist Approach)

Output level where MC = MR and MC is rising.

What types of profits can a profit-maximising PC firm make in the Short Run?

Supernormal, normal, or subnormal profits.

What is the Short Run Shut-Down Condition for a PC Firm?

Produce if TR ≥ TVC (or AR ≥ AVC) to minimize losses (cover variable costs and part of fixed costs). Shut down if TR < TVC (losses equal to total fixed costs).

What is the Long Run Equilibrium for a PC Firm?

Only normal profits due to absence of barriers to entry/exit (supernormal profits eroded by new entry; subnormal profits lead to exit).

How do PC firms adjust from SR Supernormal Profits to LR Normal Profits?

Supernormal profits attract new firms -> market supply ↑ -> equilibrium price ↓ -> all PC firms become normal profit makers.

How do PC firms adjust from SR Subnormal Profits to LR Normal Profits?

Subnormal profits cause firms to exit -> market supply ↓ -> equilibrium price ↑ -> remaining PC firms become normal profit makers.