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Four Market models

Pure Competition, Monpoly, Monopolistic, oligopoly

Pure Competition

entails a large number of firms, standardized product, and easy entry (or exit) by new (or existing) firms


has one firm that is the sole seller of a product or service with no close substitutes; entry is blocked for other firms.


is close to pure competition, except that the product is differentiated among sellers rather than standardized, and there are fewer firms.


an industry in which only a few firms exist, so each is affected by the price-output decisions of its rivals.

Pure Competition Model

-The model helps analyze industries with characteristics similar to pure competition.
-The model provides a context in which to apply revenue and cost concepts developed in previous chapters.

What does Pure Competition provide?

provides a norm or standard against which to compare and evaluate the efficiency of the real world

Characteristics of pure competition

-rare in the real world, but the model is important
-Many sellers
-The products are homogeneous or standardized; each seller's product is identical to its competitor's.
-Individual firms must accept the market price; they are price takers and can exert no influence on price.
-Freedom of entry and exit

Many Sellers

there are enough sellers so that a single seller has no impact on price by its decisions alone

Freedom of entry and exit

that there are no significant obstacles preventing firms from entering or leaving the industry.

The four major objectives to analyzing pure competition

To examine demand from the seller's viewpoint,
To see how a competitive producer responds to market price in the short run,
To explore the nature of long-run adjustments in a competitive industry, and
To evaluate the efficiency of competitive industries.

An individual firm will veiw its demand as

perfectly elastic
----The demand curve is not perfectly elastic for the industry: It only appears that way to the individual firm, since they must take the market price no matter what quantity they produce.

Average revenue

the price per unit for each firm in pure competition

Total revenue

the price multiplied by the quantity sold

Marginal revenue

the change in total revenue and will also equal the unit price in conditions of pure competition

Short Run

the firm has a fixed plant and maximizes profits or minimizes losses by adjusting output; profits are defined as the difference between total costs and total revenue

Short Run--Three questions must be answered

1. Should the firm produce?
2. If so, how much?
3. What will be the profit or loss?

MR=MC rule

states that the firm will maximize profits or minimize losses by producing at the point at which marginal revenue equals marginal cost in the short run.

Three features of this MR = MC rule

a. Rule assumes that marginal revenue must be equal to or exceed minimum-average-variable cost or firm will shut down.
b. Rule works for firms in any type of industry, not just pure competition.
c. In pure competition, price = marginal revenue, so in purely competitive industries the rule can be restated as the firm should produce that output where P = MC, because P = MR.

Changes in prices of variable inputs or in technology will shift what?

the marginal cost or short-run supply curve

a wage increase would shift____

the supply curve upward.

Technological progress would shift

the marginal cost curve downward

Determining equilibrium price for a firm and an industry

Total-supply and total-demand data must be compared to find most profitable price and output levels for the industry.

Individual firms must take price as given, but the supply plans of all competitive producers as a group are a major determinant of product price

Firm vs. industry

Long Run assumptions

1. Entry and exit of firms are the only long-run adjustments.
2. Firms in the industry have identical cost curves.
3. The industry is a constant-cost industry, which means that the entry and exit of firms will not affect resource prices or location of unit-cost schedules for individual firms.

Basic conclusions of the Long Run

that after long-run equilibrium is achieved, the product price will be exactly equal to, and production will occur at, each firm's point of minimum average total cost.
1. Firms seek profits and shun losses.
2. Under competition, firms may enter and leave industries freely.
3. If short-run losses occur, firms will leave the industry; if economic profits occur, firms will enter the industry.

If a firm decides to produce no output in the short run, its costs will be

its fixed costs

Which of the following will not hold true for a competitive firm in long-run equilibrium?
A) P equals AFC
B) P equals minimum ATC
C) MC equals minimum ATC
D) P equals MC

A) P equals AFC

Which of the following statements is correct?
A) Economic profits induce firms to enter an industry; losses encourage firms to leave.
B) Economic profits induce firms to leave an industry; profits encourage firms to leave.
C) Economic profits and losses have no significant impact on the growth or decline of an industry.
D) Normal profits will cause an industry to expand.

A) Economic profits induce firms to enter an industry; losses encourage firms to leave.

Firms seek to maximize

total profit

Fixed cost is

any cost which does not change when the firm changes its output.

Economies of scale are indicated by

the declining segment of the long-run average total cost curve

For a purely competitive seller, price equals

average revenue.
marginal revenue.
total revenue divided by output.
all of the above.

A firm reaches a break-even point (normal profit position) where:

total revenue and total cost are equal.

Assume that in the short run a firm is producing 100 units of output, has average total costs of $200, and average variable costs of $150. The firm's total fixed costs are:


The short run is characterized by:

at least one fixed resource

Which of the following industries most closely approximates pure competition?


In the long run

all costs are variable costs

Economies and diseconomies of scale explain

why the firm's long-run average total cost curve is U-shaped

Marginal product is

the increase in total output attributable to the employment of one more worker

Long-run competitive equilibrium

results in zero economic profits

When a firm is maximizing profit it will necessarily be

maximizing the difference between total revenue and total cost

average total costs decline as output is carried to a certain level, and then begin to rise

for most producing firms

We would expect an industry to expand if firms in that industry are:

earning economic profits

Marginal revenue is the

change in total revenue associated with the sale of one more unit of output

Which of the following is not a characteristic of a monopoly market

There is only one buyer in the market

Barriers to entry occur when

--economies of scale in production exist in an industry
--the firm controls a resource
--the firm that introduces a product is granted a patent

A natural monopoly is

a monopoly resulting from economies of scale

Barriers to entry associated with a natural monopoly might include

high fixed costs

A firm such as a public utility, which is the sole producer in a market where the government determines prices and standards of service, is known as

a regulated monopoly

The marginal revenue of a monopolist is

downward sloping

Before WWII, Alcoa controlled the supply of bauxite in the United States. Since bauxite is a scarce resource vital in the production of aluminum, then

Alcoa was able to create a monopoly by not allowing other firms to have bauxite

Monopoly power means that a firm

has the ability to set the price of it's product

Price Discrimination happens when

--a firm is able to "segment" it's market or separate it's consumers and also prevent the resale of it's product.
--Senior citizens get a discount on movie tickets

The efficiency loss that occurs when a market is monopolized is known as

a deadweight loss

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