Name: Episode 26: Perfect Competition
Uploaded: 2018-04-09T05:53:34.000Z
Duration: 7 min 13 s
Description: Thousands of YouTube videos with English-Chinese subtitles! Now you can learn to understand native speakers, expand your vocabulary, and improve your pronunciation...

What do you remember about perfect competition?

The second conditional

I mean, how would you recognize a perfectly
competitive industry if you ran across one?

In perfect competition, 1) there are a large
number of sellers (there are a large number

of buyers too, but we won't be worrying about
that just now).

No individual is large enough to affect the
market.

2) the product is homogeneous, or identical,
or non-differentiated.

When you go to buy 2% milk at the supermarket,
what brand do you buy?

If you're like me, you buy whatever's on sale.

I have no brand loyalty whatsoever, because
milk is milk.

It's actually not enough for products to be
identical; everyone has to know that the products

Otherwise, we can be fooled by things like
pretty packaging, or celebrity endorsements.

In a perfectly competitive industry, firm
versus firm advertising is useless.

All you'd be doing is driving up your own
costs, and then customers would just buy from

However, you may see industry-wide advertising,
like a “Got milk?”

campaign, “pork, the other white meat,”
or “beef -- it's what's for dinner.”

These kinds of campaigns raise demand for
each firm's product across the industry.

Because firms can enter and exit the industry
at will, long-term profits would be affected,

For the individual firm owner, the combined
effect of these characteristics is that he/she

has no power to control price, and will earn
zero economic profit in the long run.

Let me ask you this: If the individual firm
cannot set the price, then where does the

Think back to our market activity earlier
in the semester: in a market with lots of

buyers and sellers, the price is determined
collectively by the market supply and market

This, then, is the prevailing price for each
firm.

What happens if the firm doesn't like this
price?

If it tries to charge more than P*, all of
the customers will go someplace else.

So, the firm would be forced back down to
P*.

If it tries to charge less than P*, then all
customers in the industry will come to this

This firm cannot accommodate the entire industry
demand -- costs would skyrocket, and the firm

would be forced back up to P* to get rid of
some of the customers.

All of this means that the firm is a price
taker, forced to accept P*, the market-determined

Note that this also means, because the firm
charges P* regardless of the quantity demanded,

that P* represents the firm's demand, as well.

Remember that perfectly elastic demand curve
from earlier this semester, where consumers

are so hypersensitive to price that price
is all that matters?

OK, so -- you're producer in a perfectly
competitive market, and you have no control

Is there anything you do have control over,
that you can make decisions about?

A perfectly competitive firm may not be able
to choose its price, but it can choose how

The firm owner will choose the level of output
that will maximize his/her profits (see episode

26B to see why marginal revenue equals marginal
cost will always be the profit maximizing

So – you're a firm owner in a perfectly
competitive industry, you can't choose the

price that you charge, but you can select
the amount of output that you produce.

In order to maximize profit, you will always
choose the level of output were marginal revenue

Take a look at the perfectly competitive firm
and see where this occurs.

I need to choose output such that marginal
revenue equals marginal cost, but right now

I don't see marginal revenue OR marginal cost!

Marginal revenue is the additional revenue
that you earn when you sell an additional

For a perfectly competitive firm, since all
units are sold for the same price, each unit

sold always adds the same amount of revenue,
P*.

For example, if price is $5, then the total
revenue for zero units is $0, for one unit

Selling one more unit generates five additional
dollars of revenue each time.

Therefore marginal revenue is equal to the
equilibrium price.

Note that this is only true for perfect competition.

Well, marginal cost is actually pretty easy
-- we constructed the cost curves, marginal

cost included, before knowing anything about
market structures.

Those cost curves in the same regardless of
the structure we're operating in.

This means that the marginal cost for the
perfectly competitive firm is just… marginal

cost (remember that J-shaped, Nike-swish thing),
and now all we need to do is select the level

of output were marginal revenue equals marginal
cost.

Now, because there are no average cost curves
in this diagram yet, I can't actually show

you how large or small the profits are; only
that q* will be the best level of output for

this particular producer, based on the profit-maximizing
rule.

Let's look at just one example of how to find
profit using this model, then we'll do more

What if my perfectly competitive producer
is operating in an industry where price is

I can already tell that this producer will
be making profits, since there's more coming

in for each unit than there is being paid
out in cost, but let's see what it looks like.

Notice that I positioned the average cost
curves below the price line.

At q*, what is the total revenue coming in?

Revenue is the price I can charge times the
number of units that I sell.

At q*, what's the total cost of producing
this output?

It's the cost per unit, ATC, times the number
of units I sell -- in this case the red area.

The amount of revenue (in green) that doesn't
get chewed up by the costs (in red) is profit.

In this case, I've indicated profit by the
blue area.

In the short run, this producer earns positive
profits.