Competitive Market Chapter 10

Whe demand increases the demand curve shifts to the right causing price to rise. This induces each firm to increase output causing the supply curve to shift to the right (increase) due to new firms entering the market.This increase will cause the price to lower to the origional but the Quantity will be more.

Assume the average firm is  in initial equilibrium with p (200) +MC = ATC and producing 100 units. Assume that the industry is equally in long-run equilibrium at P=$200 and Q=100 000, since all firms are just breaking even. The demand curve is D1 D1. Demand now decreases to D2D2 (shift to the left) causing the price to drop to P=$180. This induces each firm to decrease output to Q90. With p=180, a loss is now being sustained, indusing exit until industry supply has decreased to S2S2, bringing the price back up to P=200. The industry is back in long- run equilibrium, but with supply not at Q=90000

The long run adjustment process requires entry and exit of firms into the market. The free entry/free exit condition is critical to the resoration of equilibrium in the industry because it ensures that firms enter/leave the industry until the short run industry supply is such that only normal profits are made by each firm. eg. the long run supply curve for an industry may be thought of as having perfect elasticity over the range of output being considered at a price of $200.

Perfect Competeition is an extreme industry structure; however, by studying this form, one can better understand and analyise the very common types of markets that do exist: monopolistic competition and oligopoly. In this sense it can be used as a benchmark for analysis.

Perfect competition is often referred to by economists as the 'ideal' industrial structure in terms of the efficiency it entails - perfect competition results in low cost production (productive efficiency) through long-run equilibrium occurring where P equals minimum ATC, and allocative efficency through long-run equilibrium occuring where P equals MC. Given this, it is possible to analyse real world examples to see to what extent they conform to the ideal of plants producing at their points of minimum ATC and thus producing the most desired commodities with the greatest economy in the use of resources.