What are the four market structures?
1. perfect competition
2. monopolistic competition
Describe a perfectly competitive market.
1. many buyers and many firms--all are small relative to the size of the total market
2. products are identical
3. no barriers to new firms entering the market
4. firms and consumers are price takers
What does it mean if a firm is a price taker?
1. unable to control the prices of goods they sell
2. unable to ear economic profits in the long run
How are prices determined in a perfectly competitive market?
by the interaction of market demand and market supply
What is the objective of the firm in a perfectly competitive market?
to maximize profit
What is profit?
the difference between total revenue and total cost
When is profit maximized?
when marginal revenue equals marginal cost
In a perfectly competitive firm, what is price equal to?
In the short run, what are the three things that could happen to a firm's price?
1. it can exceed its average total cost (ATC)
2. it can equal ATC so its total cost will equal total revenue
3. it can be less than ATC
What does it mean in the short run if a firm's price exceeds its ATC?
the firm will make a profit
What does it mean in the short run if a firm's price equals its ATC?
the firm breaks even and earns no economic profit
What does it mean in the short run if a firm's price is less than the ATC?
the firm experiences an economic loss
What do economic costs include?
all opportunity costs and explicit accounting costs
What can a firm experiencing losses in the short run choose to do?
1. continue to produce
2. stop production by shutting down temporarily
What can a firm experiencing losses in the long run chose to do?
go out of business
When will a firm shut down temporarily?
1. in the short run
2. when by producing the firm loses an amount greater than its fixed cost
When will a firm continue to produce in the short run?
when the firm's losses are less than the amount of its fixed cost
When will a firm produce output even though total profits remain negative?
when total revenue is greater than total variable cost
What is the shutdown point?
the quantity where P=AVC
Describe what happens when firms earns short-run profits.
1. other firms enter the industry
2. supply curve shifts to the right
3. market price lowers
4. entry continues until economic profits are 0
5. when firms suffer short-run losses, some firms will exit
6. supply curves shifts to left
7.market price increases
8.exit continues until economic profits are 0
Describe a long-run competitive equilibrium.
entry and exit of firms causes the typical firm to earn zero economic profits
What does the long-run supply curve in a perfectly competitive market display?
the relationship between market price and quantity supplied
What quantity will firms supply in the long run?
the quantity that consumers demand at a price equal to the minimum average total cost
What does a perfectly competitive market achieve in the long run?
1. productive efficiency
2. allocative efficiency
Describe the demand curve for a perfectly competitive firm?
Why is the demand curve for a perfectly competitive firm horizontal?
if the firm tried to raise its prices, consumers would buy from the firm's competitors
What is a sunk cost?
1. a cost that has already been paid and cannot be recovered
2. irrelevant to decision making
What is the shutdown point?
the minimum point on a firm's average variable cost curve
What is productive efficiency?
the situation in which a good or service is produced at the lowest possible cost
How does perfect competition result in productive efficiency?
the forces of competition drive the market price to a minimum average cost of the typical firm
What is allocative efficiency?
1. a state of the economy in which production represents consumer preferences
2. every good or service is produced up to the point where the last unit produced provides a marginal benefit to consumers equal to the marginal cost of producing it