Quản trị kinh doanh - Chapter 9: Perfectly competitive markets

Perfectly Competitive MarketsChapter 9Copyright (c)2014 John Wiley & Sons, Inc.12Chapter Nine OverviewIntroductionPerfect Competition DefinedThe Profit Maximization HypothesisThe Profit Maximization ConditionShort Run EquilibriumShort Run Supply Curve for the FirmShort Run Market Supply CurveShort Run Perfectly Competitive EquilibriumProducer SurplusLong Run EquilibriumLong Run Equilibrium ConditionsLong Run Supply CurveChapter NineCopyright (c)2014 John Wiley & Sons, Inc.3Chapter NineA perfectly competitive market consists of firms that produce identical products that sell at the same price. Each firm’s volume of output is so small in comparison to the overall market demand that no single firm has an impact on the market price.Perfectly Competitive MarketsCopyright (c)2014 John Wiley & Sons, Inc.4Chapter NineA. Firms produce undifferentiated products in the sense that consumers perceive them to be identicalB. Consumers have perfect information about the prices all sellers in the market chargePerfectly Competitive Markets - ConditionsCopyright (c)2014 John Wiley & Sons, Inc.5Chapter NineC. Each buyer’s purchases are so small that he/she has an imperceptible effect on market price. D. Each seller’s sales are so small that he/she has an imperceptible effect on market price. Each seller’s input purchases are so small that he/she perceives no effect on input pricesE. All firms (industry participants and new entrants) have equal access to resources (technology, inputs).Perfectly Competitive Markets - ConditionsCopyright (c)2014 John Wiley & Sons, Inc.6Chapter NineImplications of ConditionsThe Law of One Price: Conditions (a) and (b) imply that there is a single price at which transactions occur. Price Takers: Conditions (c) and (d) imply that buyers and sellers take the price of the product as given when making their purchase and output decisions. Free Entry: Condition (e) implies that all firms have identical long run cost functionsCopyright (c)2014 John Wiley & Sons, Inc.7Chapter NineThe Profit Maximization HypothesisDefinition: Economic ProfitSales Revenue - Economic (Opportunity) CostExample: Revenues: $1M Costs of supplies and labor: $850,000 Owner’s best outside offer: $200,000Copyright (c)2014 John Wiley & Sons, Inc.8Chapter NineThe Profit Maximization Hypothesis“Accounting Profit”: $1M - $850,000 = $150,000“Economic Profit”: $1M - $850,000 - $200,000 = -$50,000 Business “destroys” $50,000 of wealth of ownerCopyright (c)2014 John Wiley & Sons, Inc.9Chapter NineThe Profit Maximization ConditionAssuming the firm sells output Q, its economic profit is:WhereTR(Q) = Total revenue from selling the quantity Q TC(Q) = Total economic cost of producing the quantity QCopyright (c)2014 John Wiley & Sons, Inc.10Chapter NineThe Profit Maximization ConditionSince P is taken as given, firm chooses Q to maximize profit.Marginal Revenue: The rate which TR change with output.Since firm is a price taker, increase in TR from 1 unit change in Q is equal to PCopyright (c)2014 John Wiley & Sons, Inc.11Chapter NineThe Profit Maximization ConditionNote:If P > MC then profit rises if output is increasedIf P 0 STC(Q) = SFC for q = 0Copyright (c)2014 John Wiley & Sons, Inc.15Chapter NineShort Run EquilibriumWhere:SFC is the cost of the firm’s fixed input that are unavoidable at q = 0Output insensitive for q > 0 = Sunk NSFC is the cost of the firm’s inputs that are avoidable if the firm produces zero (salaries of some employees, for example)Output insensitive for q > 0 = Non-sunkTFC = SFC + NSFCTVC(q) are the output sensitive costs (and are non-sunk)Copyright (c)2014 John Wiley & Sons, Inc.16Chapter NineShort Run Supply Curve (SRSC)Definition: The firm’s Short run supply curve tells us how the profit maximizing output changes as the market price changes.Short Run Supply Curve: NSFC=0If the firm chooses to produce a positive output, P = SMC defines the short run supply curve of the firm. ButCopyright (c)2014 John Wiley & Sons, Inc.17Chapter NineDefinition: The price below which the firm would opt to produce zero is called the shut down price, Ps. In this case, Ps is the minimum point on the AVC curve. The firm will choose to produce a positive output only if:(q) > (0) orPq – TVC(q) – TFC > -TFC Pq – TVC(q) > 0 P > AVC(q)Shut Down PriceCopyright (c)2014 John Wiley & Sons, Inc.18Chapter NineShort Run Supply FunctionTherefore, the firm’s short run supply function is defined by: P=SMC, where SMC slopes upward as long as P > Ps2. 0 where P Ps = 20: P = SMC P = 20+2q  qs = 10 + ½PCopyright (c)2014 John Wiley & Sons, Inc.22Chapter NineSRSC When Some Costs are Sunk and Some are Non-SunkTFC = SFC + NSFC, where NSFC > 0ANSC = AVC + NSFC/QNow, the shut down price, Ps is the minimum of the ANSC curve.Copyright (c)2014 John Wiley & Sons, Inc.23Chapter NineSRSC When All Costs are Non-SunkIf the firm chooses to produce a positive output, P = SMC defines the short run supply curve of the firm. But the firm will choose to produce a positive output only if:(q) > (0) orPq – TVC(q) - TFC > 0 P > AVC(q) + AFC(q) = SAC(q)Now, the shut down price, Ps is the minimum of the SAC curveCopyright (c)2014 John Wiley & Sons, Inc.24Quantity (units/yr)$/yrAVCSACSMCPsChapter NineSRSC When All Costs are Non-SunkCopyright (c)2014 John Wiley & Sons, Inc.25Chapter NineSRSC When All Costs are Non-SunkSTC(q) = F + 20q + q2F = 100, all of which is sunk:AVC(q) = 20 + qSMC(q) = 20 + 2qSAC(q) = 100/q + 20 + qSAC = SMC at q = 10At any P > 40, the firm earns positive economic profitAt any P SAC so profits are positiveCopyright (c)2014 John Wiley & Sons, Inc.34Chapter NineComparative StaticsIf Supply shifts when number of firms increaseCopyright (c)2014 John Wiley & Sons, Inc.35Chapter NineComparative StaticsWhen demand shifts, elasticity of supply mattersCopyright (c)2014 John Wiley & Sons, Inc.36Chapter NineLong Run Market EquilibriumFor the following, the long run is the period of time in which all the firm’s inputs can be adjusted. The number of firms in the industry can change as well.The firm should use long run cost functions for evaluating the cost of outputs it might produce in this longer term periodi.e., decisions to modify plant size, enter or exit, change production process and so on would all be based on long term analysisCopyright (c)2014 John Wiley & Sons, Inc.37P6q$/unit(000 units/yr)SMC0SAC01.8SAC1SMC1MCACExample: Incentive to Change Plant SizeChapter NineLong Run Market EquilibriumFor example, at P, this firm has an incentive to change plant size to level K1 from K0:Copyright (c)2014 John Wiley & Sons, Inc.38Chapter NineFirm’s Long Run Supply CurveFor prices greater that $0.20 the long-run supply curve is the long-run MC curve.The firm’s long run supply curve:P = MC for P > (min(AC) = Ps) 0 (exit) for P min(AC), entry would occur, driving price back to min(AC)If P < min(AC), firms would earn negative profits and would supply nothingLong Run Market Supply CurveCopyright (c)2014 John Wiley & Sons, Inc.46ACMCSACSMC15 50 52q (000s)Q (M.)$/unit$/unit 10 18n** = 18M/52,000 = 360SS023D0D1SS1LSChapter NineLong Run Market Supply CurveTypical FirmMarketCopyright (c)2014 John Wiley & Sons, Inc.47Chapter NineConstant Cost IndustryConstant-cost Industry: An industry in which the increase or decrease of industry output does not affect the price of inputs.Copyright (c)2014 John Wiley & Sons, Inc.48Chapter NineIncreasing Cost IndustryIncreasing cost Industry: An industry which increases in industry output increase the price of inputs. Especially if firms use industry specific inputs i.e. scarce inputs that are used only by firms in a particular industry and no other industry.Copyright (c)2014 John Wiley & Sons, Inc.49Chapter NineDecreasing Cost IndustryDecreasing-cost Industry: An industry in which increases in industry output decrease the prices of some or all inputs.Copyright (c)2014 John Wiley & Sons, Inc.50Chapter NineEconomic RentEconomic Rent: The economics rent that is attributed to extraordinarily productive inputs whose supply is scarce. Difference between the maximum value is willing to pay for the services of the input and input’s reservation value.Reservation value: The returns that the owner of an input could get by deploying the input in its best alternative use outside the industry.Copyright (c)2014 John Wiley & Sons, Inc.51Chapter NineEconomic RentEconomic rent is the shaded areaCopyright (c)2014 John Wiley & Sons, Inc.52Chapter NineDefinition: Producer Surplus is the area above the market supply curve and below the market price. It is a monetary measure of the benefit that producers derive from producing a good at a particular price.Producer Surplusthat the producer earns the price for every unit sold, but only incurs the SMC for each unit. This is why the difference between the P and SMC curve measures the total benefit derived from production.Note:Copyright (c)2014 John Wiley & Sons, Inc.53Chapter NineProducer SurplusFurther, since the market supply curve is simply the sum of the individual supply curveswhich equal the marginal cost curves the difference between price and the market supply curve measures the surplus of all producers in the market.that producer’s surplus does not deduct fixed costs, so it does not equal profit.Note:Copyright (c)2014 John Wiley & Sons, Inc.54QPMarket Supply CurveP*Producer SurplusChapter NineProducer SurplusCopyright (c)2014 John Wiley & Sons, Inc.55Chapter NineProducer SurplusProducer surplus is area FBCE when price is $3.50Change in producer surplus is area P1P2GH when price moves from P1 to P2.Copyright (c)2014 John Wiley & Sons, Inc.56Chapter NineProducer SurplusGiven Market supply curve and P is the price in dollars per gallonFind producer surplus when price is $2.50 per gallonHow much does producer surplus when price of milk increases from $2.50 to $4.00Copyright (c)2014 John Wiley & Sons, Inc.57Chapter NineProducer SurplusWhen the price is $2.50 per gallon, 1,50,000 gallons of milk are sold per month.Producer surplus is triangle APrice increases from $2.50 to $4.00 the quantity supplied will increase to 240,000 gallons per monthProducer surplus will increase by areas B and area CCopyright (c)2014 John Wiley & Sons, Inc.