14-1 What Is a Competitive Market?

The Meaning of Competition

• Competitive market: a market with many buyers and sellers trading identical products so that each buyer and seller is a price taker.

• Firms can freely enter or exit the market.

The Revenue of a Competitive Firm

• A firm aims to maximize profit by calculating the total revenue minus the total cost.

• Average revenue: total revenue divided by the quantity sold.

• Marginal revenue: the change in total revenue from an additional unit sold.

14-2 Profit Maximization and the Competitive Firm's Supply Curve

A Simple Example of Profit Maximization

• If the marginal revenue is greater than the marginal cost, then the production of goods should increase. If the marginal revenue is less than the marginal cost, the production of goods should decrease.

The Marginal-Cost Curve and the Firm's Supply Decision

• The marginal revenue equals the marginal cost when at the profit-maximizing level of output.

• Competitive firms are price takers that decide what quantity of goods to supply to the market.

The Firm's Short-Run Decision to Shut Down

• Shutdowns are short-run decisions that don't produce anything during a specific period of time because of current market conditions.

• Exits are long-run decisions to leave the market.

Spilled Milk and Other Sunk Costs

• Sunk cost: a cost that has already been committed and cannot be recovered.

The Firm's Long-Run Decision to Exit or Enter a Market

• Exit market if TR < TC or if TR/Q < TC/Q or P < ATC.

• Enter market if P > ATC.

Measuring Profit in Our Graph for the Competitive Firm

• Profit = TR - TC.

• Profit = ( TR/Q - TC/Q ) x Q.

• Profit = (P - ATC) x Q.

14-3 The Supply Curve in a Competitive Market

The Short Run: Market Supply with a Fixed Number of Firms

• With 1,000 identical firms, each firm will supply the quantity of output where the marginal cost will equal the price.

The Long Run: Market Supply with Entry and Exit

• Firms in the market must remain to make zero economic profit.

Why Do Competitive Firms Stay in Business If They Make Zero Profit?

• Firms stay in business because in the zero-profit equilibrium their revenue must compensate the owners for these opportunity costs.

A Shift in Demand in the Short Run and Long Run

• Firms can enter or exit in the long run, but it's advised not to in the short run.

• The time horizon determines how a market responds to a change in demand.

Why the Long-Run Supply Curve Might Slope Upward

• A long-run market supply curve might slope upward if some resources in production are available in limited quantities, or if firms have different costs.

• The marginal firm would exit the market if prices were any lower.

14-4 Conclusion: Behind the Supply Curve

• Prices in firms can equal the lowest possible average total cost of production.