Economics and Perfect Competition
Answers to End-of-Chapter Questions in Chapter 6
1. A perfectly competitive firm faces a price of £14 per unit. It has the following short-run cost schedule:
Output |0 |1 |2 |3 |4 |5 |6 |7 |8 | |TC (£) |10 |18 |24 |30 |38 |50 |66 |91 |120 | | (a) Copy the table and put in additional rows for average cost and marginal cost at each level of output. (Enter the figures for marginal cost in the space between each column.) (b) Plot AC, MC and MR on a diagram. (c) Mark the profit-maximising output. (d) How much (supernormal) profit is made at this output? e) What would happen to the price in the long run if this firm were typical of others in the industry? Why would we need to know information about long-run average cost in order to give a precise answer to this question?
(a)
Output |0 | |1 | |2 | |3 | |4 | |5 | |6 | |7 | |8 | |TC (£) |10 | |18 | |24 | |30 | |38 | |50 | |66 | |91 | |120 | |AC (£) |– | |18 | |12 | |10 | | 9½ | |10 | |11 | |13 | |15 | |MC (£) | |8 | |6 | |6 | |8 | |12 | |16 | |25 | |29 | | | (b) See Diagram 6.1 below. (c) Profit is maximised where MC = MR (point b): i.e. at an output of 5. (d) £20 Profit per unit is given by AR – AC. AR (=MR) is constant at £14; AC at an output of 5 units is £10. Thus profit per unit = 14 – 10 = 4 Total profit is then found by multiplying this by the number of units sold: i.e. £4 ( 5 = £20. This is shown by the area abcd.
(e) Supernormal profit would encourage new firms to enter the industry. This would cause price to fall until it was equal to the minimum point of the long-run average cost curve (at that point, there would be no supernormal profit remaining and hence firms would stop entering and the price would stop falling).
2. If the industry under perfect competition faces a downward-sloping demand curve, why does an individual firm
1. A perfectly competitive firm faces a price of £14 per unit. It has the following short-run cost schedule:
Output |0 |1 |2 |3 |4 |5 |6 |7 |8 | |TC (£) |10 |18 |24 |30 |38 |50 |66 |91 |120 | | (a) Copy the table and put in additional rows for average cost and marginal cost at each level of output. (Enter the figures for marginal cost in the space between each column.) (b) Plot AC, MC and MR on a diagram. (c) Mark the profit-maximising output. (d) How much (supernormal) profit is made at this output? e) What would happen to the price in the long run if this firm were typical of others in the industry? Why would we need to know information about long-run average cost in order to give a precise answer to this question?
(a)
Output |0 | |1 | |2 | |3 | |4 | |5 | |6 | |7 | |8 | |TC (£) |10 | |18 | |24 | |30 | |38 | |50 | |66 | |91 | |120 | |AC (£) |– | |18 | |12 | |10 | | 9½ | |10 | |11 | |13 | |15 | |MC (£) | |8 | |6 | |6 | |8 | |12 | |16 | |25 | |29 | | | (b) See Diagram 6.1 below. (c) Profit is maximised where MC = MR (point b): i.e. at an output of 5. (d) £20 Profit per unit is given by AR – AC. AR (=MR) is constant at £14; AC at an output of 5 units is £10. Thus profit per unit = 14 – 10 = 4 Total profit is then found by multiplying this by the number of units sold: i.e. £4 ( 5 = £20. This is shown by the area abcd.
(e) Supernormal profit would encourage new firms to enter the industry. This would cause price to fall until it was equal to the minimum point of the long-run average cost curve (at that point, there would be no supernormal profit remaining and hence firms would stop entering and the price would stop falling).
2. If the industry under perfect competition faces a downward-sloping demand curve, why does an individual firm