Chapter 10 Micro

Chapter 10 Notes

1. Firm Behavior in Pure Competition

   • Firms seek profits and avoid losses.

   • Free entry and exit in a purely competitive industry.

2. Long-Run Equilibrium

   • In long-run equilibrium, MR = MC and price = minimum ATC ($50).

   • Economic profit is zero in this state.

3. Market Supply and Industry Entry

   • As firms enter, market supply increases.

   • Long-run supply curve: Price remains constant, output adjusts.

4. Industry Types

   • Constant-cost industry: Entry/exit has no effect on prices.

   • Increasing-cost industry: Expansion raises input prices (upward-sloping supply curve).

   • Decreasing-cost industry: Expansion lowers costs (downward-sloping supply curve).

5. Efficiency in Pure Competition

   • Productive efficiency: Goods produced at the lowest cost.

   • Allocative efficiency: P = MC, resources allocated to products most wanted by society.

6. Consumer & Producer Surplus

   • Consumer surplus: Difference between the max price consumers will pay vs. what they actually pay.

   • Producer surplus: Difference between the minimum price producers accept vs. what they receive.

7. Entry and Exit Effects in the Long Run

   • Firms enter if profit exists.

   • Firms exit if losses occur.

   • In the long run, all firms break even (normal profit).

   • Perfect competition is highly efficient: P = MC = minimum ATC.

8. Industry Adjustments in the Short Run

   • If firms earn supernormal profit, new firms enter → price decreases, quantity increases.

   • If firms experience losses, firms exit → price increases, quantity decreases.

9. Long-Run Industry Adjustments

   • Constant-cost industry: Long-run supply is horizontal.

   • Increasing-cost industry: Supply curve is upward sloping.

   • Decreasing-cost industry: New entrants lower costs for existing firms (downward-sloping long-run supply curve).

• Characteristics of Perfect Competition:

  • Homogeneous Products: All firms offer identical products, making them perfect substitutes.

  • Price Takers: Individual firms cannot influence market prices; they accept the prevailing market price.

  • Perfect Information: Both buyers and sellers have complete knowledge of prices, technology, and market conditions.

• Implications of Perfect Competition:

  • Optimal Resource Allocation: Resources are allocated efficiently, maximizing total surplus in the economy.

  • Economic Profits: In the long run, firms earn zero economic profit, covering only their opportunity costs.

  • Market Dynamics: The absence of barriers ensures that firms can freely enter or exit the market in response to economic incentives.

Key Graphs in Perfect Competition

1. Long-Run Equilibrium in Perfect Competition

• Graph Features:

  • MC (Marginal Cost), ATC (Average Total Cost), and MR (Marginal Revenue = Price) curves

  • MR = MC = minimum ATC at the equilibrium point

  • Firms make zero economic profit (normal profit)

📌 Key Insight: In the long run, price settles at the lowest ATC, ensuring productive and allocative efficiency (P = MC).

2. Long-Run Supply Curves

Different industry cost structures affect the long-run supply curve:

• Constant-Cost Industry:

  • Graph: A horizontal long-run supply curve

  • Meaning: Entry/exit does not affect resource prices, so supply adjusts without price changes.

• Increasing-Cost Industry:

  • Graph: An upward-sloping long-run supply curve

  • Meaning: As new firms enter, resource prices rise, causing higher costs and prices.

• Decreasing-Cost Industry:

  • Graph: A downward-sloping long-run supply curve

  • Meaning: Expansion leads to lower costs, benefiting all firms in the industry.

📌 Key Insight: Industry behavior in the long run depends on how costs change as firms enter or exit.

3. Short-Run Firm Adjustments

• Supernormal Profit (Short-run positive economic profit):

  • Graph:

    • The MR (Price) curve is above ATC, meaning firms earn a profit.

    • More firms enter, shifting supply right, lowering price.

  • Result: Market adjusts until normal profit remains.

• Losses in the Short Run:

  • Graph:

    • The MR (Price) curve is below ATC, meaning firms incur losses.

    • Some firms exit, shifting supply left, raising price.

  • Result: Firms exit until normal profit is restored.

📌 Key Insight: The market corrects profits and losses by adjusting firm entry/exit.

4. Consumer & Producer Surplus Graph

• Graph:

  • Demand and supply curves intersect at equilibrium.

  • Consumer surplus: Area above price and below the demand curve.

  • Producer surplus: Area below price and above the supply curve.

📌 Key Insight: Perfect competition maximizes total surplus, meaning no deadweight loss.