Drawing a Competition Diagram
Diagram should show the price and
quantity where the firm is maximising
profit in different types of markets.
These markets range from Perfect
Competition to Monopoly. It should
also be possible to further analyse the
position of the firm using type of profit
earned and efficiency levels.
Resources for Economics C Copeland
How to draw competition
diagrams?
The firm needs information on costs and
revenue to determine the level of
output[quantity] and price [average revenue]
where maximum profit is achieved.
Resources for Economics C Copeland
Averages and Marginals
• Marginals refer to the last or extra unit
produced or sold.
• Averages refer to each unit produced or sold.
• NB Special relationship between an average
and a marginal.
Resources for Economics C Copeland
Costs
• Average Cost. Total Cost
Quantity. This is
the cost of each unit. U-shaped curve.
• Marginal Cost. The additional cost of the last
unit produced. Change in total cost. NB this
curve has a special relationship with average
cost. Remember the Average and the
Marginal!!!
Resources for Economics C Copeland
Revenue
• Average Revenue.
This total revenue
Quantity.
Better known as Price!!!!
• Marginal Revenue is the change in Total
Revenue due to the last unit produced.
Resources for Economics C Copeland
Relationship between an average and
a marginal
• Example: Average Cost [AC] and Marginal Cost
[MC]
• If AC is falling MC must be less than AC
• If AC is rising MC must be greater than AC
• If AC is at its lowest point MC must equal AC
Resources for Economics C Copeland
Remember
its
relationship
with AC!!!!
€
The Cost Graphs
Marginal
Cost
Average
Cost
Quantity
Resources for Economics C Copeland
Always U
Shaped
The Revenue Graphs
€
If AR is constant
[Perfect
Competition] then
MR = AR
Average &
Marginal
Revenue
Quantity
Resources for Economics C Copeland
Perfect Competition
• This is the most competitive market structure.
• Consumers pay the lowest price [Average
Revenue AR(Price) = Average Cost AC(Cost per
Unit) and AC is at the most efficient point.
• The business operates at the most efficient
output (Lowest point of AC).
• The firm earns normal profit in the long run
(AR = AC).
• Now let us draw a diagram to show the above.
Resources for Economics C Copeland
Price Taker
Firm accepts the price set by the market
€
Market /
Industry
€
Firm
Supply
€10
€10
AR / MR
Demand
5m
units
QTY
QTY
20
units
Resources for Economics C Copeland
40
units
Short Run Equi Diagram & Explanation
€
MC
SNP
€10
€7
25
• Produce at 25 units & sell at
€10 because this is where
the firm is maximising profit
• MC=MR
AC
• MC rising faster than MR
• AR greater than AC [SNP]
AR / MR
• Inefficient AC not at
minimum
QTY
Resources for Economics C Copeland
Moving to the Long Run Equilibrium
Knowledge of profits, SNP attract new firms.
Freedom of entry allows them to join the market causing an
outward shift in the industry supply curve
Supply
P
Supply 1
€10
€4
Demand
5M
7M
Resources for Economics C Copeland
Qty
Long Run Equilibrium
The market price has fallen and the firm as a
price taker must also reduce it’s price
Price
MC
€4
AR / MR
20
AC
•Produce at 20 units & sell
at €4 because this is where
the firm is maximising
profit
•MC=MR
•MC rising faster than MR
•AR = AC [Normal Profit]
•Efficient AC at minimum
•AR =AC = MR = MC
Qty
Resources for Economics C Copeland