**This review should be used along with the review sheets for Midterm 1 and Midterm 2**
Review for Final
Microeconomics 300.01
Spring 2013
Chapter 8: Perfect Competition
Key Terms
Economic profit
Economic rent
Marginal cost (𝑀𝐶)
Marginal Revenue (𝑀𝑅)
Shut-down rule
Competitive firms short-run supply curve
Competitive firms long-run supply curve
Market supply curve
Increasing (decreasing and constant) cost industry
Concepts
 Price taker: a firm that can’t significantly affect market price through its output decisions
 Profits = revenues minus costs
 The market is competitive and firms are price takers when:
o (1) consumers believe that all firms sell identical products
o (2) firms freely enter and exit the market
o (3) buyers and sellers know the prices charged by firms
o (4) transactions costs are low
 Individual firms in a competitive market face a horizontal (residual) demand curve.
 Rules for maximizing profit are
o (1) prick output so that marginal cost (𝑀𝐶) = marginal revenue (𝑀𝑅)
 Note 𝑀𝑅 = 𝑃 in a perfectly competitive market
o (2) in short-run: shut down if 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 < 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡 (i.e. 𝑝𝑟𝑖𝑐𝑒 <
𝐴𝑉𝐶 𝑐𝑢𝑟𝑣𝑒 𝑚𝑖𝑛𝑖𝑚𝑢𝑚)
o (3) in long-run: exit the market if 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 < 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑐𝑜𝑠𝑡 (i.e. 𝑝𝑟𝑖𝑐𝑒 <
𝐴𝐶 𝑐𝑢𝑟𝑣𝑒 𝑚𝑖𝑛𝑖𝑚𝑢𝑚)
o Note: Breakeven point is where price equals average cost curve minimum.
 Competitive firm’s short-run supply curve: its marginal cost curve above the minimum of
its average variable cost.
 Competitive firm’s long-run supply curve: its marginal cost curve above the minimum of
its long-run average cost curve.
o Upward sloping supply curve if it’s an increasing cost industry
o Downward sloping supply curve if it’s a decreasing cost industry
o Constant slope supply curve if it’s a constant cost industry
 Long-run market supply curve is horizontal at the minimum long-run average cost if
firms have free entry/exit; all firms have identical costs; and input prices are constant.
 Increasing-cost market: input prices rise as output rises (increasing AC curve).
 Decreasing-cost market: input prices fall as output rises (decreasing AC curve).
 Economic rent: payments to an input’s owner above the minimum needed to supply the
input.
**This review should be used along with the review sheets for Midterm 1 and Midterm 2**
 Changes in short-run and long-run equilibrium given changes in demand and costs.
Chapter 11: Monopoly
Key Terms
Market power
Marginal revenue curve
Deadweight loss
Cost advantage (natural monopoly)
Natural monopoly
Patent
Lerner index
Price markup
Concepts
 Monopoly leads to deadweight loss by reducing output below the level where 𝑝 = 𝑀𝐶,
and charging a price that exceeds 𝑀𝐶.
 Government can mitigate this deadweight loss by regulating price at a level below the
profit-maximizing level, although this can lead to other problems if this price is less than
long-run average cost. In such a case, the regulation would lead to exit (implementing the
wrong price ceiling).
 𝑀𝑅 = 𝑀𝐶: the rule that determines the monopoly’s profit-maximization output.
 𝑀𝑅 curve is twice the slope of the demand curve.
1
 𝑀𝑅 = 𝑝(1 + 𝜀 ): a way of relating marginal revenue to price elasticity.
 Monopolies produce in the elastic region of the demand curve (understand why).
𝑃−𝑀𝐶
1
 𝐿𝑒𝑟𝑛𝑒𝑟 𝑖𝑛𝑑𝑒𝑥 = 𝑃 = − 𝜀 : the Lerner index is a way of measuring market power. The
larger the Lerner index the more market power a firm has. The 𝐿𝑒𝑟𝑛𝑒𝑟 𝑖𝑛𝑑𝑒𝑥 = 0 in a
perfectly competitive industry and 1 in a pure monopoly.
 Government policies that create monopolies or other barriers to entry that create
monopolies.