perfect competition

Perfect Perfect competition competition

Perfectly Competitive Competitive Market •

Where identical goods are provided by a large number of sellers who are price takers to a large number of buyers.

Assumptions / characteristics 1. The fi firm pr produc duces a Homogeneous Product. This means that the product of one producer cannot be distinguished from f rom that of anothe anotherr producer produ cer.. E.g. Golden Wonder Potatoes grown in Cork, Kildare, Kerry/

2. Ver ery y Lar Large ge no no.. of of Sel Selle lers rs in th the e mar mark ket where each seller produces such a small proportion of the total market market output, that any adjustment in the firms output will have no effect effect on the overall market output, or market price. The firms price is determined by the market interaction of supply and demand.

Market Price

Firm S

D = Demand AR = Average Revenue MR = Marginal Revenue P = Price Different Scales/Quantity

Price

D = AR = MR = P

D Q = 10 million

Quantity

Q = 150 units

Quantity

Demand Curve faced by the firm = Perfectly Elastic The demand for the firm’s output is perfectly elastic. •

If a firm tries to charge a higher price than the price set by the industry, industry, then its sales would be ZERO as consumers have perfect knowledge of prices and would know the product is available from another firm at a lower price.

Market

Firm S

Price

D Q = 10 million

Quantity

Q = 150 units

Quantity

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As the firms price is dictated by overall market supply and demand. It is said to be a Price taker. There is also thousands of consumers in the market market and no one on e consumer is large enough to influence mark ma rket et price.

3. Per erffec ectt Kno Knowl wled edg ge Exis Exists ts: all firms have full knowledge of the profits being made by all the other firms in the industry. industry. All the t he firms are fully aware of the cost of production. 4. Fr Free eedo dom m of En Entry try & Exit Exit Ex Exis ists ts:: firms are free to join the industry or leave the industry if  they wish. There are no barriers preventing firms from entering or setting up. 5. Ma Maxi ximi misa sati tion on of Pr Prof ofit itss: the aim of each individual firm is to maximise profits (minimise losses. This will be achieved where the marginal cost curve cuts the marginal m arginal revenue curve from below.

6. No Collusi Collusion on betw between een Buyer Buyerss & Seller Sellers: s: this this means that all the firms act independently of  each other, i.e. none of them are coming together to act as a group.

A few Points to Remember •

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When MR = MC: Profit is Maximised (The Revenue you make selling extra output = the cost of making the t he extra output) When AR = AC: Normal Profits are Made (The Selling Price of One Unit = The Cost of making a Unit of the Product. When AR > AC: SUPERNORMAL PROFITS are made

Perfect Perf ect Competition in Short Run Equilibrium Equilibrium occurs at point A. Quantity is produced where Marginal Revenue = Marginal Cost. This is the Quantity that ensures PROFIT MAXIMISATION P1 is charged. This is the price set by the industry. As the firm is a price taker it charges this price. At Q, AR (Average Revenue= the selling price for one unit) > AC (Average Cost = cost of making one unit). Supernormal Profits are made (SNPS) •

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In Summary Summary SR Equilibrium Equilibrium Occurs Occurs when MR = MC and AR > AC

Effect of Entry of Firms Effect F irms into an Industry Earning SNP’s

Perfect Perf ect Competition in Long Lo ng Run Equilibrium

Why do firms in Perf Perfect ect Competition not tend to engage in Advertising?

Product Differentiation