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Chapter11 fi 2010
- The document discusses perfect competition and profit maximization for firms in competitive markets in the short run and long run. - In the short run, firms will produce the quantity where price equals marginal cost (P=MC) as long as total revenue exceeds total variable costs. If price falls below average variable cost, the firm will shut down. - In the long run, firms will enter or exit the industry until price equals long run average cost and the firm achieves zero economic profit. The long run industry supply curve can be either horizontal or upward sloping depending on costs.
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Chapter11 fi 2010
- 1. Chapter 11 ManagerialDecisions in Competitive Markets
- 2. Perfect Competition Firmsare price-takers Each produces only a very small portion of total market or industry output All firms produce a homogeneous product Entry into & exit from the market is unrestricted 11-
- 3. Demand for aCompetitive Price-Taker Demand curve is horizontal at price determined by intersection of market demand & supply Perfectly elastic Marginal revenue equals price Demand curve is also marginal revenue curve (D = MR) Can sell all they want at the market price Each additional unit of sales adds to total revenue an amount equal to price 11-
- 4. Demand for aCompetitive Price-Taking Firm (Figure 11.2) 11- Quantity Price (dollars) Quantity Price (dollars) Panel A – Market Panel B – Demand curve facing a price-taker 0 0 D S P 0 Q 0 P 0 D = MR
- 5. Profit-Maximization in the Short Run In the short run, managers must make two decisions: Produce or shut down? If shut down, produce no output and hires no variable inputs If shut down, firm loses amount equal to TFC If produce, what is the optimal output level? If firm does produce, then how much? Produce amount that maximizes economic profit 11- Profit =
- 6. Profit Margin (orAverage Profit) Level of output that maximizes total profit occurs at a higher level than the output that maximizes profit margin (& average profit) 11-
- 7. Short-Run Output DecisionFirm’s manager will produce output where P = MC as long as: TR TVC or, equivalently, P AVC If price is less than average variable cost (P AVC) , manager will shut down Produce zero output Lose only total fixed costs Shutdown price is minimum AVC 11-
- 8. Profit Maximization: P= $36 (Figure 11.3) 11- Total cost = $19 x 600 = $11,400 Total revenue =$36 x 600 = $21,600 Profit = $21,600 - $11,400 = $10,200
- 9. Short-Run Loss Minimization: P = $10.50 (Figure 11.5) 11- Total revenue = $10.50 x 300 = $3,150 Profit = $3,150 - $5,100 = -$1,950 Total cost = $17 x 300 = $5,100
- 10. Irrelevance of FixedCosts Fixed costs are irrelevant in the production decision Level of fixed cost has no effect on marginal cost or minimum average variable cost Thus no effect on optimal level of output 11-
- 11. AVC tellswhether to produce Shut down if price falls below minimum AVC SMC tells how much to produce If P minimum AVC , produce output at which P = SMC ATC tells how much profit/loss if produce Summary of Short-Run Output Decision 11- •
- 12. Short-Run Supply CurvesFor an individual price-taking firm Portion of firms’ marginal cost curve above minimum AVC For prices below minimum AVC , quantity supplied is zero For a competitive industry Horizontal sum of supply curves of all individual firms; always upward sloping Supply prices give marginal costs of production for every firm 11-
- 13. Short-Run Firm &Industry Supply (Figure 11.6) 11-
- 14. Long-Run Profit-Maximizing Equilibrium (Figure 11.7) 11- Profit = ($17 - $12) x 240 = $1,200
- 15. Long-Run Competitive EquilibriumAll firms are in profit-maximizing equilibrium (P = LMC) Occurs because of entry/exit of firms in/out of industry Market adjusts so P = LMC = LAC 11-
- 16. Long-Run Competitive Equilibrium (Figure 11.8) 11-
- 17. Long-Run Industry SupplyLong-run industry supply curve can be flat (perfectly elastic) or upward sloping Depends on whether constant cost industry or increasing cost industry Economic profit is zero for all points on the long-run industry supply curve for both types of industries 11-
- 18. Long-Run Industry SupplyConstant cost industry As industry output expands, input prices remain constant, & minimum LAC is unchanged P = minimum LAC , so curve is horizontal (perfectly elastic) Increasing cost industry As industry output expands, input prices rise, & minimum LAC rises Long-run supply price rises & curve is upward sloping 11-
- 19. Long-Run Industry Supplyfor a Constant Cost Industry (Figure 11.9) 11-
- 20. Long-Run Industry Supplyfor an Increasing Cost Industry (Figure 11.10) 11- Firm’s output
- 21. Profit-Maximizing Input UsageProfit-maximizing level of input usage produces exactly that level of output that maximizes profit 11-
- 22. Profit-Maximizing Input UsageMarginal revenue product (MRP) MRP of an additional unit of a variable input is the additional revenue from hiring one more unit of the input 11- If choose to produce: If the MRP of an additional unit of input is greater than the price of input, that unit should be hired Employ amount of input where MRP = input price
- 23. Profit-Maximizing Input UsageAverage revenue product (ARP) Average revenue per worker 11- Shut down in short run if ARP < MRP When ARP < MRP, TR < TVC
- 24. Profit-Maximizing Labor Usage (Figure 11.12) 11-