- Introduction to perfect competition
- Economic profit for firms in perfectly competitive markets
- Perfect competition foundational concepts
- Long-run economic profit for perfectly competitive firms
- Long-run supply curve in constant cost perfectly competitive markets
- Long run supply when industry costs aren't constant
- Free response question (FRQ) on perfect competition
- Perfect competition in the short run and long run
- Increasing, decreasing, and constant cost industries
- Efficiency and perfect competition
Long-run supply curve in constant cost perfectly competitive markets
A constant cost industry is an industry where each firm's costs aren't impacted by the entry or exit of new firms. Learn about the difference between the short run market supply curve and the long run market supply curve for perfectly competitive firms in constant cost industries in this video.
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- I understand the difference between economic- vs accounting profit. But can you explain how, in stable perfectly-competitive markets, firms may be making an accounting profit (but not an economic profit)?(5 votes)
- accounting profit is always greater than economics profit so that is impossible given that inequality.(1 vote)
- [Man] Alright, now let's dig a little bit more into analyzing perfectly competitive markets, and in particular we're gonna focus on the long run, and remember the long run is the time span where firms can enter and exit the market. Or, another way to think about it is, in the long run, fixed costs actually become variable, you can shutter factories, or you can build factories, in the long run. Now, in previous videos, we talked about that in the long run, in a perfectly competitive market, the firms that operate in that perfective competitive market are going to be operating at zero economic profit, and you can see that example right over here. As we've talked about it in many, many videos, in a perfectly competitive market, the firms are price takers, that price is set by that equilibrium point between the supply and demand curves, and the firms just take that. And so, their marginal revenue curve, it would just be a horizontal line that you see right over there, and zero economic profit happens when you produce a quantity where your average total cost is the same as your marginal revenue. For each unit, the amount that you get, which is that marginal unit, that's also how much it costs you to produce it, now remember, when we're talking about economic profit, that includes your opportunity costs, so, that doesn't mean that these firms are operating at zero accounting profit, they could still be making money, but, if you were to factor in their opportunity costs, that's when you get things to zero. Now, what I want to think about, what happens in the short and long run, if something say happens to market demand. Let's say that this is the market for apples, the fruit apples. So, this is the market for apples we're talking about, this is the market as a whole, this is a firm that produces apples, it could be a farm of some kind. And let's say that a new study comes out that apples actually are super good for your health, and they can be used as a performance enhancer for sports, and all sorts of positive results. Well, what is likely to happen in the short run, and this is a little bit of a review in terms of our supply and demand curves, and also what would happen to Firm A's economic profits. Pause this video and think about that. Well, in the short run, your demand curve would shift to the right, and so, because at a given price, people are willing to demand more apples because it has all these new and exciting benefits. And so, the demand curve might shift someplace like that, so, that is D Prime, and if the demand curve shifts like that, now we have a new equilibrium price in the market, our new equilibrium price in the market is right over here, we also have a new equilibrium quantity, so, our quantity is shifted from there, to now there, so, a new equilibrium quantity, and we have a new equilibrium price, let's just call this P Prime. And, at that new equilibrium price, well now, we have a higher marginal revenue curve for Firm A, and now, Firm A, it'd be rational for them to produce, remember, it's rational for them to produce up until the marginal revenue is equal to marginal cost, because each of those incremental units up to that point, they're going to be making money on those incremental units, and so, now it's rational for them to produce at this quantity, let me call that, Q Prime, and at this level, now all of a sudden Firm A is making economic profit, because at this quantity, that's revenue per unit, this is average total cost per unit, so they're making this height per unit, and then you multiply it, times your total number of units, which is the base of this rectangle, and so, this area would represent this positive economic profit. Now, you might be saying, wait, hold on a second, I thought you said in the long run, firms don't make economic profit in a perfectly competitive market. And that is true, at least based on the models that we are constructing, because what happens when you have this positive economic profit? Well, other firms will enter this market, remember, we're talking about a perfectly competitive market, there are no barriers to enter in, everyone is fairly non-differentiated, and they have similar cost structures. And so, what you could imagine is, in the long run, folks will enter the market, and then, the supply curve will also shift to the right, and assuming that that doesn't change the cost structure for the individual firms, and actually, let me show someone entering into this market, so now, Firm B is entering this market, and when Firm B enters the market, it has the same cost structure as Firm A, and it didn't shift either of their first, either of their cost structures, so, this is known as a constant cost, perfectly competitive market, where the entering or the exiting of firms does not affect the cost structures of the firms that are entering, or that are in the market. And so, this situation, these graphs look the same, but now we have more firms entering the market, the supply curve will shift to the right, and it's going to keep shifting to the right until these firms that all have identical cost structures, are no longer making economic profit again. It wouldn't shift further to the right because no one's going to enter if they're making economic loss, it'll keep shifting until no one is making that economic profit. And so, you see what happened in this constant cost, perfectly competitive market, that now, we are back to this equilibrium point where we are at a higher quantity because people like all the benefits of these apples, but we're at the price we were before, which is the same marginal revenue curve that we were before for the various players in this market. And so, when you see something like this in a constant cost, perfectly competitive market, you can actually create a long run supply curve, you could view this S and S Prime as a short run supply curve, the long run supply curve, on the other hand, for a perfectly competitive market, in which the cost structure of the participating firms do not depend on the number of firms that are in or out of the market, then you're at long run supply curve in what we could call a constant cost, perfectly competitive market, is going to be a horizontal line like this. So, I will leave you there. In other videos, we'll think about, well, what happens if the cost structure changes for these firms depending on how many firms are in or out of the market, and that will be based on, how do the costs of the inputs into their production change as you have people entering or exiting that market.