David Youngberg
ECON 202—Montgomery College
LECTURE 14: ENTRY, EXIT, AND DEADWEIGHT LOSS
I.
Entry and Exit
64
32
16
11.2
MC
ATC
Profit
MR=P
8
4
2
1
0
a.
b.
c.
d.
2
4
0
1
3
5
6
In the example from last class, our producer is making a lot of profit
by selling used clothes. Other people have used clothes as well; what
would you expect people to do?
As people enter the market, that entry will bid prices down which
reduces profits.
This encourages entry into the market: people with similar costs will
start looking for clothes to sell. What does this do to the market for
used clothes?
This continues until each producer makes zero economic profits—or
normal profits: when P = ATC. The producer is covering all the
operation and opportunity costs.
i. Recall economic profit from when we covered the Broken
Window Fallacy.
ii. While our hypothetical person will be selling fewer clothes at
that lower price (about 4.3 boxes), the market as a whole will be
providing more used clothes. Remember, the graph here is
about one person/firm but the supply and demand graph is
about everybody.
P ($)
64
32
ATC
MC
16
~10
8
MR=P
4
2
1
0
II.
Q (boxes)
2
4
0
1
3
5
6
e. In sum, we have the elimination principle—above normal profits are
eliminated by entry and below normal profits are eliminated by exit.
f. In equilibrium this causes all industries to balance: no industry is
strictly more profitable than another.
i. Note the similarity with this concept and with compensating
differentials.
Deadweight Loss (DWL)
a. We know by now that efficiency is maximized when exchange occurs
up until MC = MB. But what about when such action does not
happen?
i. Suppose people can’t consume until MC = MB.
ii. Or they consume even though MC > MB
iii. In general, DWL is a gain that goes to no one.
b. As we will see, deadweight loss can occur in many areas and often
through government power (because governments can force people to
do things they wouldn’t otherwise do). Price controls, trade barriers,
and regulation can all cause DWL.