Pure Competition

Chapter 8
Pure competition
 Main Forms
of Market

Imperfect
8______ Market

9________ 10 ______

Monopolistic
Competition

Oligopoly
Average size of the Smallest Largest large Small to medium
firms
Characteristics Perfect Monopolistic Oligopoly Monopoly
competition

Government No No Some Yes

intervention
 Perfect Competition
Very large numbers Independently acting seller

Homogeneous product
Standardized product They make no attempt to differentiate
their product to differentiate their
products and do not engage in other
forms of nonprice competition
Price taker • Individual firms exert no significant control
over product price.
• Each firm produces such a small fraction of
total output
Free Entry in to and Exit
from the market • No legal , technological financial or other
obstacles prohibit new firms from selling
their output in any competitive market.
• a normal profit
• Pure competition involves a very large number of firms producing a
standardized product (that is, a product identical to that of other
producers, such as corn or rice.
Pure Competition:
• Very Large Numbers
• Standardized Product
• “Price Takers”
• Free Entry and Exit
 DEMAND AS SEEN BY A
PURELY COMPETITIVE SELLER
Perfectly Elastic Demand
Price Taker Role
Total Revenue= multiplying price by the corresponding quantity the firm can sell.

Average Revenue = price (different point of view)

Marginal Revenue=change in total revenue (or the extra revenue) that results from selling one
more unit of output.

Break even point =Total revenue and total cost are equal
 DEMAND AS SEEN BY A
PURELY COMPETITIVE SELLER
Product Price (P) Quantity Total Marginal
Perfectly Elastic (Average Revenue) Demanded (Q) Revenue (TR) Revenue (MR)
Demand
$131 0 $ 0
Price Taker
Role

cannot change
market price; it
can
only adjust to it.
 DEMAND AS SEEN BY A
PURELY COMPETITIVE SELLER
Product Price (P) Quantity Total Marginal
(Average Revenue) Demanded (Q) Revenue (TR) Revenue (MR)

$131 0 $ 0]
$131
131 1 131
 DEMAND AS SEEN BY A
PURELY COMPETITIVE SELLER
average revenue received
by the seller, is $131. Product Price (P) Quantity Total Marginal
(Average Revenue) Demanded (Q) Revenue (TR) Revenue (MR)
total revenue for each sales
level is found by multiplying $131 0 $ 0]
price by the corresponding $131
131 1 131 ]
quantity the firm can sell. 131
131 2 262
When a firm change in its
output its total revenue will
change as a result
Marginal revenue is the
change in total revenue (or
the extra revenue) that results
from selling one more unit of
output. In pure competition ,
marginal revenue is constant
 DEMAND AS SEEN BY A
PURELY COMPETITIVE SELLER
Product Price (P) Quantity Total Marginal
(Average Revenue) Demanded (Q) Revenue (TR) Revenue (MR)

$131 0 $ 0]
$131
131 1 131 ]
131
131 2 262 ]
131
131 3 393
 DEMAND AS SEEN BY A
In pure competition,
PURELY COMPETITIVE SELLER
marginal revenue and price Total
Product Price (P) Quantity Marginal
are equal.
(Average Revenue) Demanded (Q) Revenue (TR) Revenue (MR)

Each extra unit of sales $131 0 $ 0]

leads to increases TR by $131
131 1 131 ]
$131 at every level of sales. 131
That $131 is constant . 131 2 262 ]
Therefore , TR is a straight 131
131 3 393 ]
line and slope is upward to 131
the right. 131 4 524 ]
131
131 5 655 ]
131
131 6 786 ]
131
131 7 917 ]
131
131 8 1048 ]
131
131 9 1179 ]
131
131 10 1310
 DEMAND, MARGINAL REVENUE, AND TOTAL
REVENUE IN PURE COMPETITION
Since the pure Completion
1179
has perfect price elasticity TR
1048
The demand curve ( D ) of a

Price and revenue

917
purely competitive firm is a
horizontal line (perfectly 786
elastic) because the firm can
sell as much output as it 655
wants at the
market price (here, $131). 524

393

262

131
D = MR
0
1 2 3 4 5 6 7 8 9 10
Quantity Demanded (sold)
How to maximize the profit in Pure Competition

• Purely competitive firm is a price taker, it can maximize its economic

profit (or minimize its loss) only by adjusting its output.
• And, in the short run, the firm has a fixed plant.
• Thus it can adjust its output only through changes in the amount of
variable resources (materials, labor) it uses. It adjusts its variable
resources to achieve the output level that maximizes its profit.
• There are two ways to determine the level of output at which a
competitive firm will realize maximum profit or minimum loss.
1. to compare total revenue and total cost
2. to compare marginal revenue and marginal cost.
 SHORT RUN PROFIT MAXIMIZATION

Total-Revenue -Total Cost Approach

The Decision Process:

1. Should the firm produce?
2. What quantity should be produced?
3. What profit or loss will be realized?
 TOTAL REVENUE-TOTAL COST APPROACH

Total Total Price: $131

Total Fixed Variable Total Total
Product Cost Cost Cost Revenue Profit
0 $ 100 $ 0 $ 100 $ 0 - $100
1 100 90 190 131 - 59
2 100 170 270 262 -8
Nine units. 3 100 240 340 393 + 53
Total 4 100 300 400 524 + 124
economic
5 100 370 470 655 + 185
profit is at
a maximum 6 100 450 550 786 + 236
7 100 540 640 917 + 277
8 100 650 750 1048 + 298
9 100 780 880 1179 + 299
10 100 930 1030 1310 + 280
 the total-revenue curve for a purely
competitive firm is a straight line

The rate of increase in total cost varies with

the relative efficiency of the firm.
 Total revenue and
total cost are equal or
the two
Curves intersect
is BEP.
In the graph, the
vertical distance
between the total –
revenue and total cost
curves is greatest is
maximum profit
 Selling price is 90 per unit and Fixed Cost is 80

Total product Total Fixed Total Variable Total Revenue Profit (+) or
Total Cost (TC)
(outpout) Cost (TFC) Cost (TVC) (TR) Loss (-)
0 0
1 80
2 155
3 225
4 290
5 350
6 412
7 480
8 555
9 640
10 735
 How will you present graphically ?
Total product Total Fixed Total Variable Total Revenue Profit (+) or
Total Cost (TC)
(outpout) Cost (TFC) Cost (TVC) (TR) Loss (-)
0 80 0 80 0 -80
1 80 80 160 90 -70
2 80 155 235 180 -55
3 80 225 305 270 -35
4 80 290 370 360 -10
5 80 350 430 450 20
6 80 412 492 540 48
7 80 480 560 630 70
8 80 555 635 720 85
9 80 640 720 810 90
10 80 735 815 900 85
 SHORT RUN PROFIT MAXIMIZATION

Second approach
Marginal-Revenue -Marginal Cost Approach

Deciding factor is MR = MC Rule : the firm should produce the

last complete unit of output for which MR exceeds MC.

Three Characteristics of MR=MC Rule:

• The rule applies only if producing is preferred to shutting down
• Rule of MR=MC applies to all other four different market.
• Rule can be restated P=MC only at pure competition, Why?
Competitive seller is perfectly elastic at the going market price,
product price and marginal revenue are equal (MR=P). Mize
Therefore, P= MC rule to maximize the profit or minimize its loss.
 MARGINAL REVENUE-MARGINAL COST APPROACH

Average Average Average Price = Total

Total Fixed Variable Total Marginal Marginal Economic
Product Cost Cost Cost Cost Revenue Profit/Loss
0 - $100
The 1 $100.00 $90.00 $190.00 90 $ 131 - 59
same 2 50.00 85.00 135.00 80 131 -8
3 33.33 80.00 113.33 70 131 + 53
profit 4 25.00 75.00 100.00 60 131 + 124
5 20.00 74.00 94.00 70 131 + 185
maximiz 6 16.67 75.00 91.67 80 131 + 236
7 14.29 77.14 91.43 90 131 + 277
ing 8 12.50 81.25 93.75 110 131 + 298
result! 9 11.11 86.67 97.78 130 131 + 299
10 10.00 93.00 103.00 150 131 + 280
MARGINAL REVENUE-MARGINAL COST APPROACH

Average Average Average Price = Total

Total Fixed Variable Total Marginal Marginal Economic
Product Cost Cost Cost Cost Revenue Profit/Loss
0 - $100
1 $100.00 $90.00 $190.00 90 $ 131 - 59
2 50.00 85.00 135.00 80 131 -8
3
4
Graphically
33.33 80.00 113.33 70
25.00 75.00 100.00 60
131
131
+ 53
+ 124
5 20.00 74.00 94.00 70 131 + 185
6 16.67 75.00 91.67 80 131 + 236
7 14.29 77.14 91.43 90 131 + 277
8 12.50 81.25 93.75 110 131 + 298
9 11.11 86.67 97.78 130 131 + 299
10 10.00 93.00 103.00 150 131 + 280
MARGINAL REVENUE-MARGINAL COST APPROACH

Profit Maximization Position

$200
Economic Profit MC

Cost and Revenue

150
$131.00 MR
ATC
100 AVC
$97.78

50

0
1 2 3 4 5 6 7 8 9 10
 Total
Average
Total product Average Fixed Average Total Marginal Cost Marginal Economic
Variable Cost
(outpout) Cost (AFC) Cost (ATC) (MC) Revenue or P Profit (+) or
(AVC)
Loss (-)
0 0
1 80
2 155
3 225
4 290
5 350
6 412
7 480
8 555
9 640
10 735
MARGINAL REVENUE-MARGINAL COST APPROACH

Profit Maximization Position

$200
Economic Profit? MC

Cost and Revenue

150

110 ATC
100 AVC
$97.78

50

0
1 2 3 4 5 6 7 8 9 10
MARGINAL REVENUE-MARGINAL COST APPROACH

Profit Maximization Position

$200
Economic Profit MC

Cost and Revenue

150
$131.00 MR
MR = MC ATC
100 AVC
Optimum
$97.78

Solution
50

0
1 2 3 4 5 6 7 8 9 10
MARGINAL REVENUE-MARGINAL COST APPROACH

Loss Minimization Position

$200
Economic Loss MC

Cost and Revenue

150

ATC
100 AVC
$91.67
$81.00 MR
50

0
1 2 3 4 5 6 7 8 9 10
MARGINAL REVENUE-MARGINAL COST APPROACH

Short-Run Shut Down Point

$200
MC

Cost and Revenue

150

ATC
100 AVC
$71.00 MR
50 Minimum AVC
is the Shut-Down
Point
0
1 2 3 4 5 6 7 8 9 10
 Selling price is 90 per unit and Fixed Cost is 80
What quantity is economic profit maximization.
Total product Total Fixed Total Variable Total Revenue Profit (+) or
Total Cost (TC)
(outpout) Cost (TFC) Cost (TVC) (TR) Loss (-)
0 0
1 80
2 155
3 225
4 290
5 350
6 412
7 480
8 555
9 640
10 735
 1-4 Resources in production

5- 8 factors of production

True or false
9. land and labors can be factors or resources.
10. K = is equal to labor as represented in economic equation.