Chapter 11 : Pure Competition
Pure Competition : Characteristics and Occurrence
1. Very large numbers of independently acting sellers [small firm]
2. Standardized product
3. Price taker : each competitive is a price taker : it cannot change the market price but
can only adjust to it
4. Free entry and exit : new firm can freely enter and existing firms can freely leave the
industry
Demand as Seen by a Pure Competition Seller
Perfectly elastic demand
The demand schedule faced by individual firm in Pure comptiitive industy is
perfectly elastic but the market demand is not.
Average, Total and Marginal Revenue
− Average revenue : AR = TR / Q
− Total revenue : TR = P x Q
− Marginal Revenue : the change in TR, the extra revenue which results from selling 1
more unit of output
− In Pure conpetition P = MR = AR = D
− When successive units are sold, Tr increase constantly at the rate equal to its price
Profit – Maximization in the Short Run
1. Total Revenue – Total Cost Approach : Profit – Maximization Cost
− The firm acheives maximum profit where the difference between the total
revenue and total cost is greatest
− Break-even point : an output level at which a firm makes only a normal profit
2. Marginal Revenue – Marginal Cost Approach
MR = MC Rule : Tn short run, the firm will maximize profit or minimize loss by prodicing
that output at which MR = MC
* Three Characteristics of MR = MC Rule
1. The rule assumes the firm will choose to produce rather than shut down
2. The rule is not limited to the ease of pure competition
3. For a purely competitive firm, the rule can be restated as P = MC
**** If at MR = MC, output is fractional quantities, choose the last unit which MR is
more than Mc
2.1 Profit – Maximizing Case
If at MR = MC, P [or AR] > ATC , then the firm should produce to maximize
economic profit
****** Profit / loss = [P – ATC ] x Q ******
2.2 Loss – Minimizing Case
If at MR = MC, P [or AR] < ATC , but P > AVC then the firm should produce
because the loss is less than fixed cost
2.3 Shutdown Case
If at MR = MC, P [or AR] < ATC , but P < AVC then the firm should shutdown
to minimize the loss only equal to fixed cost
Marginal Cost and Short – Run Supply
− The portion of the firm's MC curve lying above its AVC crve is its short run curve
− Minimum AVC is the shutdown profit but Minimum ATC is the break-even point [
earns just normal profit = 0]
Changes in Supply
− Changes in factors as prices of variable inputs or in technology will alert costs and
shift the MC curve or short run supply curve up or down
Firm and Industry : Equillibrium price
− The individual supply curve : at S = the sum of MC curves
− Product price is given to individual firm, but the supply plans of all competitive
producers as a group are basic determinant of product price