Pure Competition Notes

Four Market Models

  • Pure Competition: very large number of sellers, standardized product, price takers, free entry and exit.
  • Monopolistic Competition: many sellers, differentiated products, some control over price, relatively easy entry.
  • Oligopoly: few sellers, products can be standardized or differentiated, limited price control, significant entry barriers.
  • Pure Monopoly: one seller, unique product, considerable price control, blocked entry.

Characteristics of Pure Competition

  • Number of Sellers: Very large.
  • Type of Product: Standardized (identical across sellers).
  • Price Control: None, firms are price takers.
  • Entry and Exit: Very easy, no significant barriers.

Demand in Pure Competition

  • Demand Curve: Perfectly elastic, horizontal line at market price.
  • Revenue Curves: Average Revenue (AR) = Price (P) for each unit sold.
    • Total Revenue (TR) = Price × Quantity (Q).
    • Marginal Revenue (MR) = ΔTR/ΔQ.

Profit Maximization in Pure Competition

  • TR - TC Method: Firms maximize profit where total revenue exceeds total cost by the greatest amount.
    • Break-even Point: Where total revenue equals total cost.
  • MR = MC Method: Price equals marginal revenue for price takers. Key questions:
    • Should the firm produce?
    • What output level maximizes profit?
    • Will production yield an economic profit?

Short-Run Loss Minimization

  • Loss Minimization occurs if firms produce where MR > minimum AVC, minimizing losses.
    • If price is below minimum AVC, the firm should shut down temporarily.

Long-Run in Pure Competition

  • In the long run:
    • Firms can enter or exit the market.
    • Pricing moves towards a point where profits are zero (normal profits).
  • Equilibrium: Achieved through entry and exit adjusting supply and prices, leading to normalization of profit/loss.

Long-Run Supply Curves

  • Constant-cost industry: Entry/exit expect unchanged ATC.
  • Increasing-cost industry: ATC increases with new firms entering.
  • Decreasing-cost industry: ATC decreases as firms expand.

Efficiency in Pure Competition

  • In long-run, competitive markets achieve:
    • Productive Efficiency: P = minimum ATC.
    • Allocative Efficiency: P = MC.
    • Triple Equality: Ensures consumer and producer surplus maximization.

Economic Adjustments**

  • Competitive markets adjust automatically in response to changes in consumer demand, technology, and resources.
  • Technological Advances: Drive down costs and improve products, resulting in increased competition and potential creative destruction of old products.

Final Note - The Pandemic Impact

  • The COVID-19 pandemic significantly affected various businesses, illustrating the fragility of market equilibria in pure competition (e.g., restaurants, hotels, rental cars).