Editors Note:
Part II Product and Factor Markets
should be read as an introduction to this
chapter,
especially
by those using
McConnell
Economics Books
or involved with
Test Prep CLEP, or
AP Economics projects.
I. Introduction
A. A purely competitive market exists
when the number of independently acting buyers and sellers is so large that
individual participants have no affect on
market price and quantity.
B. Products sold are virtually identical. Agricultural products
such as potatoes and wheat are examples of
competitively sold products.
C. Pure competition as defined is difficult to find because some
monopoly power usually exists.
D. Price is determined by the intersection of industry supply and
demand.
E. Individual firms are price takers
as they
inherit a horizontal demand/marginal revenue curve from their industry.
1. A firm can not sell above market as
products are identical and no one will buy higher than market.
2. There is no reason to sell below market
as it would mean less revenue and less profit.
II. A Purely Competitive Company making a Profit
III. Purely competitive adjustment
|
A. Suppose industry demand and supply yield an equilibrium price
P at which a firm's economic profit is zero.
1. Step 1
indicates an increase in demand to D' causing economic profit.
2. Market
entry is relatively easy and this profit draws in new firms
increasing supply to S', Step 2, and economic profit disappears.
3. This
automatic purely competitive adjustment causes equilibrium long run economic
profit for pure competition to
be zero.
4.To many, zero long run economic profit
represents an ideal economic model as all the company earns is a normal return
on investment.
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IV. Economic analysis of pure competition
A. Competition is
efficient.
1.
Price settles where long-run ATC is at its lowest point indicating goods are
produced efficiently.
2.
P = MR = MC indicating that resources are allocated efficiently as the
$'s spent by consumers (P) = the
$'s received by producers (MR) = the
$ cost of producers (MC) and
economic profit is zero.
B. Shortcomings
1.
Spillover costs (pollution) and benefits (education) aren't properly measured
resulting in goods being
over and
under produced.
a. Government intervention was needed to lower automobile pollution.
b. Governments supports education with grants and inexpensive loan problems
to students and colleges.
2.
Monopoly power develops to negate Adam Smith's "invisible hand" of
competition which is required
to assure that the purely
competitive adjustment occurs.
3.
Eliminating economic profit makes it difficult for competitive firms to afford
expensive R & D and technology.
C.
Economics Interactive has an in depth look at pure competition.
V. Competitive supply
1. A firm's MC curve is its
short-run supply curve.
2. Industry supply is the
horizontal summation of the firm's supply curves.
3.
Economics: Long
Run Supply - Cliffs Notes
analyzes the affect of long term supply on the efficiency of all industries.
Editors Note, see especially
VI. For a conservative view of competition
Read
Pure and Perfect" Competition? By What Standard? Part 5 in a
Series
of articles on Capitalism,
Free-competition, Antitrust, and Microsoft, By Richard M. Salsman
VII. Other theories of the competitive model from Wikipedia.
A.
Bertrand competition
B.
Cournot competition
requires calculus.
VIII.
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