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# Chapter 9 Perfect Competition

CHAPTER 9 - PERFECT COMPETITION

2.
Economic
Q TVC MC MR TFC TC TR Profit
0 \$0 \$6 \$6 \$0 –\$6

6 5
1 6 6 12 5 –7

5 5
2 11 6 17 10 –7

4 5
3 15 6 21 15 –6

3 5
4 18 6 24 20 –4

4 5
5 22 6 28 25 –3

6 5
6 28 6 34 30 –4

a. Using the MR and MC approach, we know that, when marginal cost is increasing, the firm should
increase output if MR>MC for that additional output, and not increase output if MR<MC. We see
that marginal cost begins to increase with the production of the 5th unit. For the 5th unit MR>MC, so
the firm should produce it. For the 6th unit, however, MR<MC, so the firm should not produce it. We
see that the profit maximizing output level is Q* = 5.
b. Since the firm’s TC always exceeds its TR, its goal becomes to minimize its economic loss. This
occurs at Q* = 5, where economic profit = –\$3.

4. a. The market equilibrium price—where quantity supplied equals quantity demanded—is \$2.00
per pound. Thus, each individual firm will face a price of \$2.00, which is also its marginal
revenue. From the total cost column, we can calculate that marginal cost is \$1.00 per pound for
increases from 60,000 to 61,000, and from 61,000 to 62,000. When output increases from 62,000
to 63,000, however, MC = \$3.00. Since MR > MC for increases in output up to 62,000, but MR <
MC beyond 62,000, the typical firm should produce a profit-maximizing output of 62,000 pounds.

b. At 62,000 pounds, ATC = TC/Q = \$112,000/62,000 = \$1.81. Since P > ATC, the firm is earning
a profit. Profit will attract entry, so this market is not in long-run equilibrium.

Consequently. In the short run. Output Price Total Marginal Total Cost Marginal Profit Revenue Revenue Cost 0 \$50 \$0 \$5 -\$5 \$50 \$35 1 \$50 \$50 \$40 \$10 \$50 \$15 2 \$50 \$100 \$55 \$45 \$50 \$35 3 \$50 \$150 \$90 \$60 \$50 \$55 4 \$50 \$200 \$145 \$55 \$65 This firm’s short-run profit-maximizing quantity of output is 3 (found by expanding output as long as marginal revenue exceeds marginal cost). the supply curve is flatter in the long run than in the short run. but its profit falls to \$55. the quantity supplied will be higher with entry than with no entry. a higher price induces existing firms to produce more output. Output Price Total Marginal Total Cost Marginal Profit Revenue Revenue Cost 0 \$50 \$0 \$10 -\$10 \$50 \$35 1 \$50 \$50 \$45 \$5 \$50 \$15 2 \$50 \$100 \$60 \$40 \$50 \$35 3 \$50 \$150 \$95 \$55 \$50 \$55 4 \$50 \$200 \$150 \$50 \$50 \$65 The firm’s profit-maximizing quantity of output remains at 3 units. Chapter 9 Perfect Competition c. while in the long run. c. For any given price increase.  6. Yes. so that the number of firms in the market will increase. This firm will earn a profit of \$60. b. a higher price also induces entry. Output Price Total Marginal Total Cost Marginal Profit Revenue Revenue Cost 0 \$50 \$0 \$5 -\$5 \$50 \$55 1 \$50 \$50 \$60 -\$10 \$50 \$35 2 \$50 \$100 \$95 \$5 \$50 \$55 3 \$50 \$150 \$150 \$0 . 8. The profit that the firm is earning will attract entry. a.

The shifts will continue until each firm is just breaking evenat point C. market output is Q1 and price is P1. both the market price and quantity are lower than before the reduction in market demand (old long-run equilibrium at point A). 10. and its profit falls to \$5. Now suppose that market demand decreases from D 1 to D2. As they do so. Chapter 9 Perfect Competition \$50 \$75 4 \$50 \$200 \$225 -\$25 \$50 \$85 The firm’s profit-maximizing quantity of output falls to 2 units. In the left-hand panel. Some of them will leave the industry. however. the reduction in market output will cause each firm's LRATC curve to shift downward. At this low price. As they do so. In the new long-run equilibrium (point C). Because this is an increasing cost industry. LRATC1). is found by connecting points A and C. the output of the typical firm is unchanged at q1. Firms that are already in the market react by cutting back production. Market Firm Price Dollars per Unit S2 LRATC1 S1 SLR A LRATC2 P1 P1 d1 = MR1 A P2 P2 d2 = MR2 C C B D1 PSR D2 Q2 Q1 Output per q1 Output per Period Period Suppose the perfectly competitive market and representative firm are initially in equilibrium at point A. The right-hand panel shows that the typical firm facing price P1 produces q1 units of output (at the minimum point of its long-run average total cost curve. the market price will fall to P SR at the intersection of market supply curve S1 and new market demand curve D2. The upward-sloping. long-run market supply curve. each of those firms will be suffering a loss. SLR. the market supply curve will shift inward. . both of which are points of long-run equilibrium.

so the new equilibrium is found at point B where supply curve S 2 crosses unchanged demand curve D1. MORE CHALLENGING QUESTIONS 14. imposition of the excise tax will shift the short-run supply curve vertically by the amount of the tax – from S1 to S2. In the left-hand panel. Chapter 9 Perfect Competition 12. Price Price per Market Firm per Unit S3 Unit LRATC2 S2 P3 C P3 C B S1 P2 P2 LRATC1 A P1 d1 = MR1 P1 A D1 Q3 Q2 Q1 Output per q1 Output per Period Period . the demand curve will not change.a. Each firm in the industry will find that its average total cost has increased by the amount of the tax. In the short run.

At that price. each firm in this market will suffer a loss. the market is back in long-run equilibrium at point C. and some of them will leave the industry. As firms do leave the industry. each of the remaining firms will just break even – with zero economic profit. Exit will continue until the market price reaches P 3. Consequently. . because it is a constant-cost industry. However. In other words. The fact that the market price has risen by the full amount of the tax tell us that all of the tax is paid by buyers. the market supply curve will shift farther to the left – to S 3. c. and the change in the market price are all the same. Notice that the excise tax. the vertical shift of the LRATC curve. this exit will not affect firms’ LRATC curves. You can see that the short-run demand curve (dotted) corresponding to new short-run market price P 2 – lies below LRATC 2 at each possible output level. Chapter 9 Perfect Competition b. In the long run. the typical firm’s LRATC curve (right-hand panel) will shift upward by the amount of the tax – from LRATC 1 to LRATC2.