Use the following information to work Problems 1 to 3. Lin’s makes fortune cookies that are identical to
those made by dozens of other firms, and there is free entry in the fortune cookie market. Buyers and
sellers are well informed about prices.
1. In what type of market does Lin’s operate? What determines the price of fortune cookies and what
determines Lin’s marginal revenue from fortune cookies?
PERFECT COMPETETION is a market in which following conditions prevail,
-Many firms sell identical products to many buyers.
-There are no restrictions no entry into the market.
-established firms have no advantage over the new ones.
-Sellers and buyers are well informed about prices.
The equilibrium price is determined by the equilibrium between the market demand and the market
supply.
2. a. If fortune cookies sell for $10 a box and Lin’s offers its cookies for sale at $10.50 a box, how many
boxes does it sell? b. If fortune cookies sell for $10 a box and Lin’s offers its cookies for sale at $9.50 a
box, how many boxes does it sell?
It is given that fortune cookies sell for a $10 a box. As fortune cookies market is a perfectly competition
market . So, Market price is $10 a box. In a perfect competition a firm is a price taker. So, lin has to
accept the price the price of $10 a box, if Lin offers its cookies for sale at $10.50 a box, he would not be
able to sell any box. Since cookies of Lin and its rival are identical consumers would not pay higher than
prevailing market price.
All buyers will want to buy Lin’s cookies. so the demand for Lin’s cookies is essentially infinite. More
realistically, Lin would probably sell the quantity that maximizes his profit but that profit will be less than
if he sells at the going market price of $10 a box.
3. What is the elasticity of demand for Lin’s fortune cookies and how does it differ from the elasticity of
the market demand for fortune cookies?
Under Perfect competition, market determines the price and firm acts as price taker. The firm can sell
any quantity it chooses at the market price. So the demand curve for the firm’s prodict is a horizontal
line at the market price, the same as the firm marginal revenue. A horizontal demand curve illustrates a
perfectly eleastic demand so the demand for firm’s product is perfectly elastic. Since fortune cookie
market is a perfectly competitive market and Lin is a perfectly competitive firm. So, demand for Lin’s
fortune cookies would be perfectly elastic.
Calculate pat’s profit maximizing output and economic profit if the market price is
(i) $14 a pizza. (ii) $12 a pizza. (iii) $10 a pizza.