PPA 723: Managerial
Economics
Lecture 13:
Competition in the Long Run
Managerial Economics, Lecture 13: Competition in Long Run
Outline
Profit Maximization in the Long Run
The Long-Run Supply Curve
Characteristics of Long-Run Equilibrium in
a Competitive Market
Managerial Economics, Lecture 13: Competition in Long Run
LR Competitive Profit Maximization
In competitive markets, firms are still
price takers in the long run.
So the long-run output decision is to set
output at the q* where
p = LRMC(q*)
Managerial Economics, Lecture 13: Competition in Long Run
Long-Run Shut-Down Decision
In the long run, a firm operates only if
revenue  variable cost.
All costs are variable in the long run, so
the shut-down rule in the long run is to
operate only if revenue  cost
i.e., if p  minimum of AC curve.
Managerial Economics, Lecture 13: Competition in Long Run
Short Run vs. Long Run
In the short run, a firm compares its
revenue only to its avoidable (variable)
cost, It ignores sunk fixed costs.
In the long run, all costs are avoidable.
A firm can eliminate them by shutting down.
So a firm shuts down if LR profit is negative:
i.e., if  < 0
Managerial Economics, Lecture 13: Competition in Long Run
Long-Run Firm Supply Curve
Because all costs are variable in the
long run, the long-run firm supply curve
equals the long-run MC curve above the
minimum of the long-run AC curve.
A firm chooses its capital in the longrun, so the long-run supply curve may
differ from the short-run supply curve.
Managerial Economics, Lecture 13: Competition in Long Run
Figure 8.11 The Short-Run and Long-Run Supply Curves
p, $ per unit
S SR
S LR
LRAC
SRAC
SRAVC
p
35
B
A
28
25
24
20
LRMC
SRMC
0
50
110
q, Units per year
Managerial Economics, Lecture 13: Competition in Long Run
LR Market Supply Curve
The market supply curve = the
horizontal sum of firms' supply curves in
both the long-run and the short-run.
The market supply curve differs in the
long-run and the short-run because of
differences in number of firms and,
perhaps, in input prices.
Managerial Economics, Lecture 13: Competition in Long Run
Number of Firms
In the short run, each firm can produce
more or less, but the number of firms, n,
is fixed.
In the long run, firms can produce more
or less and firms can enter or exit the
market.
Firms enter a market in response to
profits and exit in response to losses.
Managerial Economics, Lecture 13: Competition in Long Run
(a) Firm
(b) Market
p, $ per unit
p, $ per unit
Long-run market supply
before entry
S1
S1
Profit
S2
Entry
LRAC
p1
p1
10
10
LRMC
0
150
q, Hundred metric tons of oil per year
D
0
Q , Hundred metric tons of oil per year
Managerial Economics, Lecture 13: Competition in Long Run
Long-Run Market Supply
The long-run market supply curve is flat
at the minimum long-run average cost if
There is free entry and exit.
An unlimited number of firms have identical
costs.
Input prices are constant as the number of
firms changes.
Managerial Economics, Lecture 13: Competition in Long Run
(a) Firm
(b) Market
p, $ per unit
p, $ per unit
S1
LRAC
Long-run market supply
curve with entry
10
10
LRMC
0
150
q, Hundred metric tons of oil per year
0
Q , Hundred metric tons of oil per year
Managerial Economics, Lecture 13: Competition in Long Run
Why Long-Run Market Supply Curve
Sometimes Slopes
Factors that lead to a long-run supply
curve that is not flat include
Barriers to entry
Variation in costs across firms
Input prices that vary with market output.
Managerial Economics, Lecture 13: Competition in Long Run
Figure 8.13 Long-Run Market Supply in an IncreasingInput-Cost Market
(b) Market
(a) Firm
p, $ per unit
p, $ per unit
MC 2
MC 1
AC 2
S
AC 1
p2
p1
e2
E2
e1
q1 q 2
E1
q, Units per year
Q 1 = n 1q 1 Q 2 = n 2q 2
Q, Units per year
Managerial Economics, Lecture 13: Competition in Long Run
Figure 8.14 Long-Run Market Supply in an DecreasingInput-Cost Market
(b) Market
(a) Firm
p, $ per unit
MC1
p, $ per unit
MC 2
AC 1
AC 2
e1
p1
E1
e2
E2
p2
S
q1 q2
q, Units per year
Q 1 = n1 q 1 Q2 = n 2 q2
Q, Units per year
Managerial Economics, Lecture 13: Competition in Long Run
Long-Run Competitive Equilibrium
 The intersection of the long-run market
supply and demand curves determines longrun competitive equilibrium
 With identical firms, constant input prices, and
free entry and exit,
 The long-run market supply curve is horizontal
at minimum long-run AC
 The equilibrium price = minimum long-run AC
 A shift in the demand curve affects only
equilibrium quantity and not equilibrium price.
Managerial Economics, Lecture 13: Competition in Long Run
Figure 8.15 The Short-Run and Long-Run Equilibria for
Vegetable Oil
(a) Firm
(b) Market
p, $ per ton
p, $ per ton
MC
D1
D2
AC
S SR
f2
11
10
F2
AVC
e
11
10
f1
7
0
E 2 S LR
E1
F1
7
100 150 165
q, Hundred metric tons
of oil per year
0
1,500 2,000
3,300 3,600
Q, Hundred metric tons
of oil per year
Managerial Economics, Lecture 13: Competition in Long Run
Characteristics of Long-Run
Competitive Equilibrium
All firms earn zero economic profit
(which means they earn the same
business profit they could earn
elsewhere).
All firms in market operate at minimum
long-run AC; i.e, they produce the
equilibrium quantity using the minimum
possible resources.