The Four Market Models
How do businesses decide what price to
charge and how much to produce?
It depends on the character of its industry.
Classroom Concerns
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Attendance Issues* 15 Limit
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Assignment Completion
Four Market Models
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Pure Competition
Pure Monopoly
Monopolistic Competition
Oligopoly
They differ in the # of firms in the industry,
whether those firms produce a standard
product, how difficult it is to enter the industry.
Characteristics of Pure Competition
• Large Number of Firms competing (shares on
the stock market, farm products)
• Standardized Products (consumers are
indifferent if price is the same)
• Price-Takers (at the mercy of the market price,
they make up a fraction of total production)
• Free Entry and Exit from Industry (no
significant legal, tech, or financial obstacles)
Demand for a Purely Competitive Firm
• Perfectly Elastic Demand: The firm is a pricetaker, therefore, Marginal Revenue = Demand.
• It cannot obtain a higher price by restricting
output and it does not need to lower its price
to sell more, it just has to produce it.
• Figure 9-1 (217) shows the D, MR, and TR for a
perfectly elastic firm. (This is not for the whole
industry).
Average, Total, and Marginal Revenue
• Average Revenue: TR / Quantity Sold
• Total Revenue: Total dollars received from the
quantity sold
• Marginal Revenue: Change in total revenue
from selling one additional unit.
Test Question (Key Question # 3, Page 243)
Profit Maximization in Short-Run
• Since the Purely Competitive firm is a pricetaker, it can only adjust output to increase
profit.
• In the short-run, only variable resources can
be adjusted (labour and materials).
• To find the profit maximizing point, we must
compare TR and TC, or MR and MC.
Profit Maximization (TR-TC)
• The firm’s profit is maximized where Total
Revenue (TR) exceeds Total Cost (TC) by the
maximum amount.
• In Figure 9-2 (220) this is displayed in two
ways. One is utilizing both TR and TC curves
(note the two Break-Even Points). The other is
utilizing a total economic profit curve.
Profit Maximization (MR=MC)
• The firm can also compare Marginal Revenue
and Marginal Cost to maximize profit.
• The firm will keep producing more units until
Marginal Revenue is equal to Marginal Cost.
• For a purely competitive firm, Price = Marginal
Revenue, so P = MC for profit maximization.
• You cannot produce a fraction of a product.
Calculating Profit
• In Table 9-4 (222) Marginal Cost is still less
than Marginal Revenue at the 9th unit of
output. So that is where we stop producing.
• Total Cost = (ATC x 9)
• Total Revenue = (MR x 9)
• Profit = TR – TC
• Therefore: Profit = ($1179 - $880) or $299
Key Graph 9-3 Quick Quiz
Minimizing Losses
• If a firm is losing money, it should still produce
as long as it is cheaper than them paying the
fixed costs with 0 production.
• If MR exceeds Marginal Cost at a higher unit of
output, it should keep producing, but at a
smaller loss… As long as MR > Minimum AVC.
• If production adds more to revenue than it
does to cost, the firm is saving money.
Perfect Competition Handout
• Allocative Efficiency and Perfect Competition
• Complete the reading and the associated
questions.
• Be sure to pay attention to the supplementary
graphs.
• Hand-in the associated questions tomorrow.