Chapter 10 Part 1

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Chapter 10Part 1

• The Firm Behavior under Perfect Competition
  Industry

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Markets and the price system

• What is a market in everyday language?
• Supermarket, fish market, stock market etc
• In economics, a market refers to a set of sellers
  and buyers whose activities affect the price at
  which a particular commodity is sold
• The market for shoes
• The market for furniture
• NOT the shop Target that sells furniture

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How do markets differ?

• We differentiate among markets (based on)
• How many firms a market includes
• The market for restaurant meals includes
• Applebees
• Fridays
• Zelo etc.
• Difference of goods between different firms
• Market for toothpaste BUT Crest vs. Colgate
• How easy it is to enter
• Can I open my own fast food restaurant?
• Can I build my own power plant?

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Different Markets

• Different market types will affect how consumers
  and firms operate in these markets
• Ex You will pay 1000 for a diamond (even though
  it is really worth 5c, BUT you will not pay
  1000 dollars for a hamburger
• Ex In one market type, a Firm can get away with
  chargin you 1000 dollars for something worth
  5c, but in another market type if it tried to do
  that no one would buy

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Market (or industry) Structure

• In the next couple of chapters we examine how
  consumers and firms BEHAVE in different market
  types
• These include
• Perfect Competition
• Many small firms selling identical product
• Monopolistic Competition
• Many small firms selling slightly different
  product
• Oligopoly
• Few large rival firms
• Monopoly
• A single firm dominating the market

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Perfect Competition

• A market is said to operate in Perfect
  Competition if
• Many buyers (consumers) and sellers (firms) How
  many? So many that each person/firm is
  insignificant
• B S are price takers everyone takes the
  market price as given
• B S are so small that their decisions have no
  effect on price (No collusion etc)

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Perfect Competition

• Homogenous Products
• All goods in the market are identical
• Ex. Market for 24 carat gold or unenriched,
  unbleached organic white flour
• Because of this no one firm has a large market
  share
• Since all good are identical, consumers do not
  care which firm they buy from. If any market firm
  had a large market share, a competitor could
  grab the market share by decreasing their price
  by a trillionth of a cent (i.e. a small amount)

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Perfect Competition

• Free entry and exit
• Firms can enter and leave industry/market without
  any barriers or costs
• If firms are making profits, new can firms can
  enter. If firms are making losses they can exit.
• No government or market barriers
• No regulation
• No natural barriers
• etc.

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Perfect Competition

• Perfect information
• Buyers and sellers are well informed
• i.e. they know EVERYTHING about products and
  prices
• If someone starts selling a product at a lower
  price, everyone knows about it IMMEDIATELY

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Is there Perfect Competition?

• Probably not!
• BUT there are approximations
• Some agricultural markets, with numerous
  suppliers and almost perfectly substitutable
  products
• Stocks of individual companies
• eBay auctions of similar products
• So why do we care?
• Under PC the market mech. works best
• We start with something that works well then
  modify it

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Perfect Competition

• RECALL Distinction between market demand curve
  and the demand curve that a firm face
• What would the demand curve that a firm faces in
  perfect competition industry look like?
• A firm in PC can sell as much as it wants at the
  given market price

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Demand Curve for a Firm under Perfect Competition
Why? Firm is so insignificantly small relative to
the market that it has absolutely no influence
over price! Think of a farmer selling his
stockpile of corn Same price whether he sells 1
truck or 10!
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Perfect Competition and Profit Maximization

• Recall MRMC principle
• What would the MR curve look like for a firm in
  perfect competition?

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Short-Run Equilibrium of the Perfectly
Competitive Firm