Perfect competition
By the end of this section you should be able to:
- Describe, using examples, the assumed characteristics of perfect competition: a large number of firms; a homogeneous product; freedom of entry and exit; perfect information; perfect resource mobility.
- Explain, using a diagram, the shape of the perfectly competitive firm's average revenue and marginal revenue curves, indicating that the assumptions of perfect competition imply that each firm is a price taker.
- Explain, using a diagram, that the perfectly competitive firm's average revenue and marginal revenue curves are derived from market equilibrium for the industry.
- Explain, using diagrams, that it is possible for a perfectly competitive firm to make economic profit (supernormal profit), normal profit or negative economic profit in the short run based on the marginal cost and marginal revenue profit maximization rule.
- Explain, using a diagram, why, in the long run, a perfectly competitive firm will make normal profit.
- Explain, using a diagram, how a perfectly competitive market will move from short-run equilibrium to long-run equilibrium.
- Distinguish between the short run shut-down price and the break-even price.
- Explain, using a diagram, when a loss-making firm would shut down in the short run.
- Explain, using a diagram, when a loss-making firm would shut down and exit the market in the long run.
- Calculate the short run shutdown price and the breakeven price from a set of data
- Explain the meaning of the term allocative efficiency.
- Explain that the condition for allocative efficiency is P = MC (or, with externalities,
- MSB = MSC).
- Explain, using a diagram, why a perfectly competitive market leads to allocative efficiency in both the short run and the long run.
- Explain the meaning of the term productive/technical efficiency.
- Explain that the condition for productive efficiency is that production takes place at minimum average total cost.
- Explain, using a diagram, why a perfectly competitive firm will be productively efficient in the long run, though not necessarily in the short run.