Competitive Markets part 1
Competitive Markets part 1 Economics 150
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This 3 page Class Notes was uploaded by Elina Doolabh on Wednesday March 16, 2016. The Class Notes belongs to Economics 150 at Wake Forest University taught by Dr. Veronica Sovero in Winter 2016. Since its upload, it has received 56 views. For similar materials see Introduction to Economics in Economcs at Wake Forest University.
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Date Created: 03/16/16
Competitive Market: Features: lots of sellers in the market. This means that each seller has no control over the price, nor can they influence the price (they are price takers). Because of this, sellers observe the price and choose the QUANTITY that maximizes profit. There is free entry/ability to exit this industry (**important for long-term analysis) Goal: maximize profits FORMULA: Profit = Total Revenue – Total Cost [also written as Profit = (Price*Q) – Total Cost] Ex. Mellow Mushroom Pizza ~suppose a pizza sells for $15. Quantity Total Cost Marginal Total Marginal ∆ Profit Profits cost Revenue Revenue 0 10 --- 0 --- --- -10 1 21 11 15 15 4 -6 2 30 9 30 15 6 0 3 41 11 45 15 4 4 4 54 13 60 15 2 6 5 69 15 75 15 0 6 6 86 17 90 15 -2 4 Inferences from the Chart above: - We know there is a fixed cost of $10. We know this because if you look at the Quantity 0, there is a Total Cost of $10 even though no pizzas are being made. - Therefore, this is a short run analysis (**fixed costs are only in short run analyses since there is less time than in a long run analysis) - What is highlighted in green represents the profit maximizing quantity. FORMULA: Marginal Revenue = (∆TR) / (∆Q) Think at the Margin: When deciding how many pizzas to sell, think about it one pizza at a time. st - 1 Pizza o Benefits: MR = $15 o Cost: MC = $11 o Profits: $4 nd o SELL - 2 Pizza o Benefits: MR = $15 o Cost: MC = $9 o Profits: $6 rd o SELL - 3 Pizza o Benefits: MR = $15 o Cost: MC = $11 o Profits: $4 o SELL - 4 Pizza o Benefits: MR = $15 o Cost: MC = $13 o Profits: $2 o SELL - 5 Pizza o Benefits: MR = $15 o Cost: MC = $15 o Profits: $0 o SELL th - 6 Pizza o Benefits: MR = $15 o Cost: MC = $17 o Profits: $ -2 o DO NOT SELL When does it no longer make sense to sell pizzas? When you are not making a profit, OR if it costs you more to make the pizzas than what they are being sold for. **Sell up until MC = MR TO MAXIMIZE PROFIT: choose the quantity where MC = MR. In a perfectly competitive market, Marginal Cost = Price. If a firm is in a Competitive Market: 1. Observe Price 2. Decide how much output to produce, one unit at a time: a. If MR = MC, you are a the profit MAX quantity b. If MR > MC, you should produce more to get to the profit maximizing quantity c. If MR < MC, you should produce less to get to the profit maximizing quantity 3. Calculate your Profits: (FORMULAS) a. Total Profit = TR- TC or Total Profit = (P*Q) – TC b. Per unit Profit: Total Profit/Q = [(P*Q)/Q] – (TC / Q) Total Profit /Q = P – (TC / Q) Per unit Profit = P - ATC 4. Total Profit = (P – ATC) * Q max Should we choose Q to max per unit profit? NO! Total profit can be greater by selling more units (even if average profits are smaller) FORMULAS: Per unit Profit = (P – ATCQmax) max Total Profits: (P – ATC Qmax) * Q When the price is at the bottom of the ATC curve, it is called the breakeven price. (PBE= min ATC) If the price is below ATC, you are losing money. If P < P , you cannot be making a positive profit Options: 1. Find a loss minimizing quantity, and produce at a loss 2. Produce nothing and shut down for the short run **Shutting down is not always a good idea (if you are still making more than your fixed cost, then it does not make sense to shut down) In the pizza example, if you shut down, you make a profit of $ -10 due to fixed costs. Continuing to produce can offset losses. If you cannot cover your variable costs, shut down. If P < AVC, SHUT DOWN! Minimize your loss if you can at least cover your variable costs of production
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