Firms in competitive markets - Higher Ed eBooks & Digital ...

Firms in competitive markets - Higher Ed eBooks & Digital ...

PowerPoint Presentations for Principles of Microeconomics Sixth Canadian Edition by Mankiw/Kneebone/McKenzie Adapted for the Sixth Canadian Edition by Marc Prudhomme University of Ottawa FIRMS IN

COMPETITIVE MARKETS Chapter 14 Copyright 2014 by Nelson Education Ltd. 14-2 FIRMS IN COMPETITIVE MARKETS In this chapter we examine the behaviour of competitive firms. A market is competitive if each buyer and seller is small compared to the size of the

market and, therefore, has little ability to influence market prices. Copyright 2014 by Nelson Education Ltd. 14-3 WHAT IS A COMPETITIVE MARKET? The goal of this chapter is to examine how firms make production decisions in competitive markets. As a background for this analysis, we begin by considering what a competitive market is.

Copyright 2014 by Nelson Education Ltd. 14-4 The Meaning of Competition Competitive market: a market in which there are many buyers and many sellers so that each has a negligible impact on the market price (price takers) Three characteristics: 1. There are many buyers and many sellers in the market. 2. The goods offered by the various sellers are

largely the same. 3. Firms can freely enter or exit the market. Copyright 2014 by Nelson Education Ltd. 14-5 The Revenue of a Competitive Firm A firm in a competitive market tries to maximize profit, which equals total revenue minus total cost. Copyright 2014 by Nelson Education Ltd.

14-6 The Revenue of a Competitive Firm P : Price Q : Quantity TR : Total revenue Copyright 2014 by Nelson Education Ltd. 14-7 TABLE 14.1:

Total, Average, and Marginal Revenue for a Competitive Firm Copyright 2014 by Nelson Education Ltd. 14-8 The Revenue of a Competitive Firm The fourth column in the table shows average revenue. Average revenue tells us how much revenue a firm receives for the typical unit sold.

Average revenue (AR): total revenue divided by the quantity sold Copyright 2014 by Nelson Education Ltd. 14-9 The Revenue of a Competitive Firm The fifth column in the table shows marginal revenue. Marginal revenue (MR): the change in total revenue from an additional unit sold

For competitive firms, marginal revenue equals the price of the good. Copyright 2014 by Nelson Education Ltd. 14-10 QuickQuiz When a competitive firm doubles the amount it sells, what happens to the price of its output and its total revenue? Copyright 2014 by Nelson Education Ltd.

14-11 PROFIT MAXIMIZATION AND THE COMPETITIVE FIRMS SUPPLY CURVE Lets examine how the firm maximizes profit and how that decision leads to its supply curve. Copyright 2014 by Nelson Education Ltd. 14-12 A Simple Example of Profit

Maximization The analysis of the firms supply decision starts with the example in Table 14.2. Copyright 2014 by Nelson Education Ltd. 14-13 TABLE 14.2: Profit Maximization: A Numerical Example Copyright 2014 by Nelson Education Ltd.

14-14 A Simple Example of Profit Maximization One of the ten principles of economics in Chapter 1 is that rational people think at the margin. If , then increase milk production. If

, then decrease milk production. If , now the firm is maximizing profits. Copyright 2014 by Nelson Education Ltd. 14-15 The Marginal-Cost Curve and the Firms Supply Decision To extend this analysis of profit maximization,

consider the cost curves in Figure 14.1. The marginal-cost curve (MC) is upward sloping. The average-total-cost curve (ATC) is Ushaped. The marginal-cost curve crosses the averagetotal-cost curve at the minimum of average total cost. Copyright 2014 by Nelson Education Ltd. 14-16 The Marginal-Cost Curve and the Firms Supply Decision The figure also shows a horizontal line at

the market price (P). The price line is horizontal because the firm is a price taker. For a competitive firm, the firms price equals both its average revenue (AR) and its marginal revenue (MR). Copyright 2014 by Nelson Education Ltd. 14-17 FIGURE 14.1: Profit Maximization for a Competitive Firm

Copyright 2014 by Nelson Education Ltd. 14-18 The Marginal-Cost Curve and the Firms Supply Decision Three rules that are key to rational decision making for profit maximization: 1. If marginal revenue is greater than marginal cost, the firm should increase its output. 2. If marginal cost is greater than marginal revenue, the firm should decrease its

output. 3. At the profit-maximizing level of output, marginal revenue and marginal cost are exactly equal. Copyright 2014 by Nelson Education Ltd. 14-19 FIGURE 14.2: Marginal Cost as the Competitive Firms Supply Curve

Copyright 2014 by Nelson Education Ltd. 14-20 The Firms Short-Run Decision to Shut Down Under some circumstances, a firm will decide to shut down and not produce anything at all. Copyright 2014 by Nelson Education Ltd. 14-21

The Firms Short-Run Decision to Shut Down Shutdown versus Exit A shutdown refers to a short-run decision not to produce anything during a specific period of time because of current market conditions. An exit refers to a long-run decision to leave the market. The short-run and long-run decisions differ because most firms cannot avoid their fixed costs in the short run but can do so in the long

run. Copyright 2014 by Nelson Education Ltd. 14-22 The Firms Short-Run Decision to Shut Down Copyright 2014 by Nelson Education Ltd. Cartoonresource/Shutterstock What determines a firms shutdown

decision? If the firm shuts down, it loses all revenue from the sale of its product. At the same time, it saves the variable costs of making its product (but must still pay the fixed costs). Thus, the firm shuts down if the revenue that it would earn from producing is less than its variable costs of production. 14-23

The Firms Short-Run Decision to Shut Down Copyright 2014 by Nelson Education Ltd. 14-24 FIGURE 14.3: The Competitive Firms Short-Run Supply Curve Copyright 2014 by Nelson Education Ltd.

14-25 Spilt Milk and Other Sunk Costs Sunk cost: a cost that has already been committed and cannot be recovered Because nothing can be done about sunk costs, they can be ignored when making decisions about various aspects of life, including business strategy. Copyright 2014 by Nelson Education Ltd. 14-26

The Firms Long-Run Decisions to Exit or Enter the Market alexmillos/Shutterstock If the firm exits, it again will lose all revenue from the sale of its product, but now it saves on both fixed and variable costs of production. The firm exits the market if the revenue it would get from producing is less than its total costs.

Copyright 2014 by Nelson Education Ltd. 14-27 The Firms Long-Run Decisions to Exit or Enter the Market Copyright 2014 by Nelson Education Ltd. 14-28 The Firms Long-Run

Decisions to Exit or Enter the Market The exit price coincides with the minimum point on the average-total-cost curve. The shutdown price coincides with the minimum point on the average-variable-cost curve. Copyright 2014 by Nelson Education Ltd. 14-29 The Firms Long-Run Decisions to Exit or Enter the Market

The firm will enter the market if it is profitable, which occurs if the price of the good exceeds the average total cost of production. The entry criterion is: Copyright 2014 by Nelson Education Ltd. 14-30 FIGURE 14.4: The Competitive Firms Long-Run Supply Curve

Copyright 2014 by Nelson Education Ltd. 14-31 Measuring Profit in Our Graph for the Competitive Firm It is useful to analyze the firms profit in more detail. This way of expressing the firms profit allows us to measure profit in our graphs. Copyright 2014 by Nelson Education Ltd.

14-32 FIGURE 14.5: Profit as the Area between Price and Average Total Cost Copyright 2014 by Nelson Education Ltd. 14-33 QuickQuiz How does the price faced by a profit-maximizing

competitive firm compare to its marginal cost? Explain. When does a profit-maximizing competitive firm decide to shut down? When does a profit-maximizing competitive firm decide to exit a market? Copyright 2014 by Nelson Education Ltd. 14-34 Active Learning Identifying a Firms Profit

Determine this firms total profit. Identify the area on the graph that represents the firms profit. A competitive firm Costs, P MC MR ATC P = $10

$6 50 Copyright 2014 by Nelson Education Ltd. Q 14-35 Active Learning Answers Costs, P A competitive firm

Profit per unit = P ATC = $10 6 = $4 MC MR P = $10 ATC

profit $6 Total profit = (P ATC) x Q = $4 x 50 = $200 Copyright 2014 by Nelson Education Ltd. Q 50 14-36

Active Learning Identifying a Firms Profit Determine this firms total loss, assuming AVC < $3. Identify the area on the graph that represents the firms loss. A competitive firm Costs, P MC

ATC $5 MR P = $3 30 Copyright 2014 by Nelson Education Ltd. Q 14-37 Active Learning

Answers A competitive firm Costs, P MC Total loss = (ATC P) x Q = $2 x 30 = $60 ATC $5

P = $3 loss loss per unit = $2 MR 30 Copyright 2014 by Nelson Education Ltd. Q 14-38

THE SUPPLY CURVE IN A COMPETITIVE MARKET Lets discuss the supply curve for a market. There are two cases to consider: 1. A market with a fixed number of firms 2. A market in which the number of firms can change as old firms exit the market and new firms enter Copyright 2014 by Nelson Education Ltd. 14-39

The Short Run: Market Supply with a Fixed Number of Firms Consider first a market with 1000 identical firms. For any given price, each firm supplies a quantity of output so that its marginal cost equals the price. Copyright 2014 by Nelson Education Ltd. 14-40 FIGURE 14.6:

Market Supply with a Fixed Number of Firms Copyright 2014 by Nelson Education Ltd. 14-41 The Long Run: Market Supply with inEntry and If firms already the market are Exit

profitable, then new firms will have an incentive to enter the market. This entry will expand the number of firms, increase the quantity of the good supplied, and drive down prices and profits. Vice versa. At the end of this process of entry and exit, firms that remain in the market must be making zero Copyright 2014 by Nelson Education Ltd.

14-42 FIGURE 14.7: Market Supply with Entry and Exit Copyright 2014 by Nelson Education Ltd. 14-43 The Long Run: Market Supply with Entry and Exit The long-run equilibrium of a competitive

market with free entry and exit must have firms operating at their efficient scale. Copyright 2014 by Nelson Education Ltd. 14-44 Why Do Competitive Firms Stay in Business If They Make Zero Profit? In the zero-profit equilibrium, economic profit is zero, but accounting profit is positive.

Copyright 2014 by Nelson Education Ltd. 14-45 A Shift in Demand in the Short Run and Long Run Because firms can enter and exit a market in the long run but not in the short run, the response of a market to a change in demand depends on the time horizon. Copyright 2014 by Nelson Education Ltd.

14-46 FIGURE 14.8: An Increase in Demand in the Short Run and Long Run Copyright 2014 by Nelson Education Ltd. 14-47 FIGURE 14.8

(continued) Copyright 2014 by Nelson Education Ltd. 14-48 FIGURE 14.8 (continued) Copyright 2014 by Nelson Education Ltd. 14-49

Why the Long-Run Supply Curve Might Slope Upward There are two reasons that the long-run market supply curve might slope upward: 1. Some resources used in production may be available only in limited quantities. 2. Firms may have different costs. Copyright 2014 by Nelson Education Ltd. 14-50

FIGURE 14.9: An Upward Sloping Long-Run Supply Curve Copyright 2014 by Nelson Education Ltd. 14-51 QuickQuiz In the long run with free entry and exit, is the price in a market equal to marginal cost, average total cost, both, or neither? Explain with a diagram.

Copyright 2014 by Nelson Education Ltd. 14-52 Classroom Activity A Profitable Opportunity? As a recent graduate of this college, you have landed a job in production management for Universal Clones Inc. You are responsible for the entire company on

weekends. Your costs are shown below. Quantity Average Total Cost 500 200 501

201 Your current level of production is 500 units. All 500 units have been Copyright ordered by your regular customers. 2014 by Nelson Education

Ltd. 14-53 Classroom Activity A Profitable Opportunity? (continued) The phone rings. Its a new customer who wants to buy 1 unit of your product. This means you would have

to increase production to 501 units. Your new customer offers you $450 to produce the extra unit. A. Should you accept this offer? B. What is the net change in the firms profit? Copyright 2014 by Nelson Education Ltd. 14-54 THE END Chapter 14

Copyright 2014 by Nelson Education Ltd. 14-55

Recently Viewed Presentations

  • The Engineering Profession

    The Engineering Profession

    The Engineering Profession. E10 - Introduction to Engineering. Charles W. Davidson. College of Engineering
  • PainFree SST Primary Manuscript Results James Coles, PhD

    PainFree SST Primary Manuscript Results James Coles, PhD

    * The MADIT-RIT trial demonstrated that strategic device programming can reduce the risk of inappropriate therapies, which was also associated with a reduced mortality risk. However, key limitations of this trial were the lack of single chamber ICD, exclusion of...
  • Learning to Read, at Greentrees October 2015

    Learning to Read, at Greentrees October 2015

    Rainbow alphabetTraining children to use these resources enables them to use their skills independently. Guided Reading(Begins in January). This, along with phonics teaching is how teachers 'teach' reading.
  • Welcome to Nutrition Jeopardy - Rowan University

    Welcome to Nutrition Jeopardy - Rowan University

    Welcome to Nutrition Jeopardy Created by Verna Taylor How to Play the Game Click on monetary amount on game board. This advances to the question. Click on the button to reveal answer. To go back to select new category, click...
  • Change Agency & Leadership from the Middle Patrick

    Change Agency & Leadership from the Middle Patrick

    For Higher Ed? For independent schools? Fred Dust: The moment Google starts hiring smart self-educated people who submit digital portfolios of what they can do instead of college transcripts of what they know, the higher ed value proposition is in...
  • &quot;Controversies in Dyslipidemia: Does On-Treatment LDL/Non-HDL ...

    "Controversies in Dyslipidemia: Does On-Treatment LDL/Non-HDL ...

    He was obese (body mass index of 39), had diabetes type 2, mild hypothyroidism, and essential hypertension. At the time this picture was taken, lipemia retinalis was present, his plasma triglycerides were 142 mmol/L (12585 mg/dL) with a total cholesterol...
  • Taiwans Economy in the 1980s and 1990s This

    Taiwans Economy in the 1980s and 1990s This

    The behavior of the investment ratio was extremely high and erratic during the late 1980s and 1990s. The investment ratio hovered around 35% - 40% over the 1990s. The jump after 1988 was due almost exclusively to government including state...
  • The parable of the search for low SES

    The parable of the search for low SES

    The parable of the search for low SES students: how ANU could turn high SES applicants (water) into low SES students (wine) David Marr Australian National University