PROBLEM SET 7
Problems for Chapter 13
1.
Part (a) in the figures below gives the market supply and demand curves for a
product sold under perfectly (purely) competitive conditions.
Price (P)
S
Price (P)
D
0
Quantity (Q)
0
quantity (q)
Part (a)
The Market
2.
Part (b)
Individual Firm
a.
In Part (b) of the figure above, illustrate the demand curve for an
individual firm’s product in this market.
b.
Graphically show in the figures above, the effect on the market and on the
individual firm of entry by new sellers into this market.
Draw an average total cost curve in each of the following figures to indicate that
the firm in Part (a) is operating with an economic profit greater than zero, the firm
in Part (b) is operating with an economic loss, and the firm in Part (c) is “breaking
even” (operating with an economic profit equal to zero).
$
$
$
D=P
D=P
q
Part (a)
D=P
q
Part (b)
q
Part (c)
2
3.
The figure below belongs to a an individual perfectly (purely) competitive firm.
Draw a long-run average total cost curve in this figure that is representative of the
long-run position of a perfectly competitive firm and answer the question below the
diagram.
Price
10
9
8
7
6
5
D=P
4
3
2
1
0
1
2
3
4
5
6
7
8
9
10
11
Quantity (thousands of units)
In the long-run, this firm will produce _______ units of output that will be sold for
$______ each.
3
4.
For each diagram below:
a.
Indicate whether the perfectly competitive firm is earning economic
profit greater than or less than zero at the level of output (q1) it is
currently producing. BONUS: What is the numerical value of the profit
per unit that the firm is earning in each case?
b.
In each case, will new firms enter the industry or will firms exit the
industry?
c.
In each case, what price will the firm charge when the industry gets to
long-run equilibrium?
Situation I
$
ATC
100
75
50
D=P
q*
q1
Output (q)
Situation II
$
ATC
30
D=P
20
15
q1
q*
Output (q)
4
5.
6.
a.
What does it mean when a firm operates with an economic profit greater
than zero, an economic profit less than zero, or “breaks even” (economic
profit equals zero)?
b.
Illustrate the following situations in a graph:
i.
A perfectly (purely) competitive firm in long-run equilibrium.
ii.
A monopolist earning an economic profit greater than zero.
iii.
A perfectly (purely) competitive firm operating with an economic
profit less than zero.
How do firms in perfect (pure) competition and monopoly differ in terms of:
 Number of rivals?
 Control over price?
 Ability to earn economic profit greater than zero over the long-run?
 Efficiency?
5
SELECTED ANSWERS
1.
a.
Price (P)
S1
Price (P)
A
P1
P1
D1
D
0
Quantity (Q)
Part (a)
The Market
0
quantity (q)
Part (b)
Individual Firm
The individual firm’s demand curve is horizontal at the market equilibrium price because
each firm can sell as much output as it wants at the market price.
6
1.
b.
Price (P)
S1
Price (P)
S2
A
P1
P1
D1
P2
D2
B
P2
D
0
Quantity (Q)
0
quantity (q)
Part (a)
The Market
Part (b)
Individual Firm
When new firms enter, the market supply curve shifts right (from S1 to S2). The
individual firm’s demand curve shifts down from D1 to D2.
2.
$
$
Part (a)
ATC
D=P
ATC
D=P
q
q
Part (b)
$
ATC
D=P
q
Part (c)
3.
The amount produced is determined by the output level where the long-run
average total cost curve touches the demand curve. The exact level of output will depend
on where the average total cost curve you drew touches the demand curve. This amount
will be sold for $5.
4.
Situation I:
a.
At q1: P = 50, ATC = 100  economic profit is less than zero.
(Profit per unit = P – ATC = 50 – 100 = -50)
b.
Firms will exit.
c.
Price will rise to 75 because in long-run, equilibrium price = minimum
average total cost.
7
Situation II:
a.
b.
c.
5.
a.
At q1: P = 30, ATC = 20  economic profit is greater than zero.
(Profit per unit = P – ATC = 30 – 20 = 10)
Firms will enter.
Price will fall to 15 because in long-run equilibrium, price = minimum
average total cost.
Economic profit greater than zero means that:
 the firm is earning an “above-normal” profit
-OR The firm’s accounting profit exceeds the firm owner’s opportunity
cost.
(YOU figure out the rest!!)
b.i.
$
ATC
ii.
$
ATC
P1
P1
D=P
P=min. ATC
 Econ. Profit = 0
q1
b. iii.
$
ATC1
q
q1
ATC
ATC1
P1
Econ. Profit < 0
D=P
q1
q
6.
Number of rivals:
Control over price:
Econ. Profit > 0 in long-run:
Efficiency:
Perfect
Competiton
Many
None
Not possible
Yes
D=P
Econ. Profit>0
Monopoly
None
Maximum
Possible
No
q