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Microeconomics Summaries

Microeconomics Summaries

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Published by Enver Figueroa
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Published by: Enver Figueroa on Jun 26, 2012
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05/18/2014

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Summary of Mankiw’s “Principles of economics”
Enver Figueroa Bazán201210117
Chapter 13
Competitive markets have three main features, namely:1.There are many buyers and sellers and any of them areorganized,2.The goods or services produced and sold are mostly the same.3.Firms can freely enter and exit the market.4.I would like to add this last one: customers and sellers have perfect information about the prices.In a competitive market, firms and costumers are not big or  powerful enough to influence prices, so they have to take the prevailing price at each moment and for that they become to becalled “price takers”.For a competitive or price taker firm, its revenue progress at aconstant rate that is given by the price. As long as each unit it sells isat the same price, let’s say P, every additional unit sold brings thesame additional revenue: P; this is the marginal revenue.Accordingly, it the firm does a balance of its revenues, the averagerevenue will also be P. For that, marginal and average revenue arethe same for a competitive firm. At drawing these functions in adiagram, they yield horizontal lines that go forth from the Y axis atthe P level, parallel to the X axis.On the other hand, a competitive firm uses resources to produce.Those resources cost, so it has to pay for them or invest time, effortand other valuable resources to get them. When each additional unitof the good is produced, the total cost increases in an amount relatedto that unit. That is the marginal cost: what costs to produce the last,or the marginal unit. The marginal cost tends to be increasing,
 
reflecting the increasing cost of opportunity of the resourcesemployed, so the marginal cost curve is upward sloping.Since the marginal revenue tells the firm how much it gains from thelast unit sold and the marginal cost how much it cost, the firm will produce until marginal revenue and marginal cost be equal.Producing beyond will cost more than what is get from customers.Therefore, the condition to maximize profits is MR=MC, as it’sdrawn below, where the profit maximizing quantity is 12 at price of 100.That is a short-run equilibrium. In order to stay in the market, thefirm needs at least to recover its average variable cost. Where theMC curve crosses the AVC curve, that’s the point above which thefirm can keep producing in the short-run. That point corresponds toa price of 23 and a production of 5 in our example. In the long-runthe firm will not obtain profits over its minimum average cost, a point which is crossed by the marginal cost from below. Thatdetermines the long-run equilibrium, in which the firm produces 8 ata price of 50.The short-run supply curve can be derived from the marginal costnow. It is made by all the points in this curve over the minimumAVC. The long-run supply curve corresponds to all points over theMC curve over the minimum ATC.
 
01020304050607080901001101201301401501601701801902002102202302402500 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21
UnitsPrice
MR ATCAVC SCMC Long-runclose point
Regarding the market as a whole, the short-run supply curve is thehorizontal sum of every firm’s production for every price. In thelong-run however, short-run profit will attract more similar firms toenter, and then the market supply curve will move outwards pressing the price to fall. So, prices will increasingly fall until it isequal to the minimum ATC, and since all firms are similar,incentive to keep entering the market will vanish. Hence, the long-run equilibrium will be P=50 and Q=8 for every firm. The long-runMarket Supply Curve will not turn into a horizontal line at P=50,however, because there are increasing costs in the long-run that haveto be paid by firms wishing to enter, like research and development,acquisition of new productive factors, adapting infrastructure andtraining labor force, among others.

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