Chapter 7 Profit Maximization and Perfect Competition Chapter

Choosing Output in the Long Run n In the long run, a firm can

Output Choice in the Long Run Price ($ per unit of output) In the

Output Choice in the Long Run Price ($ per unit of output) Question: Is

Choosing Output in the Long Run n Accounting Profit & Economic Profit l Accounting

Choosing Output in the Long Run Long-Run Competitive Equilibrium n Zero-Profit l If R

Choosing Output in the Long Run Long-Run Competitive Equilibrium n Entry and Exit l

Long-Run Competitive Equilibrium • Profit attracts firms • Supply increases until profit = 0

Choosing Output in the Long Run n Long-Run Competitive Equilibrium 1) MC = MR

Choosing Output in the Long Run n Economic Rent l Chapter 7 Economic rent

Producer Surplus n Producer surplus measures the difference between the market price that a

Firms Earn Zero Profit in Long-Run Equilibrium Ticket Price LMC LAC A baseball team

Firms Earn Zero Profit in Long-Run Equilibrium Ticket Price Economic Rent LMC LAC $10

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Chapter 7 Profit Maximization and Perfect Competition Chapter 7 Slide 1

Choosing Output in the Long Run n In the long run, a firm can change all its inputs, including the size of the plant. n We assume free entry and free exit. Chapter 7 Slide 2

Output Choice in the Long Run Price ($ per unit of output) In the long run, the plant size will be increased and output increased to q 3. Long-run profit, EFGD > short run profit ABCD. LMC LAC SMC D $40 SAC A C G E B P = MR F $30 In the short run, the firm is faced with fixed inputs. P = $40 > ATC. Profit is equal to ABCD. q 1 Chapter 7 q 2 q 3 Output Slide 3

Output Choice in the Long Run Price ($ per unit of output) Question: Is the producer making a profit after increased output lowers the price to $30? LMC LAC SMC D $40 SAC A C G E B P = MR F $30 q 1 Chapter 7 q 2 q 3 Output Slide 4

Choosing Output in the Long Run n Accounting Profit & Economic Profit l Accounting profit l Economic profit uwl = R - w. L - r. K = labor cost urk = Chapter 7 = R - w. L cost of capital Slide 5

Choosing Output in the Long Run Long-Run Competitive Equilibrium n Zero-Profit l If R > w. L + rk, economic profits are positive l If R = w. L + rk, zero economic profits, but the firms is earning a normal rate of return; indicating the industry is competitive l If R < wl + rk, consider going out of business Chapter 7 Slide 6

Choosing Output in the Long Run Long-Run Competitive Equilibrium n Entry and Exit l The long-run response to short-run profits is to increase output and profits. l Profits will attract other producers. l More producers increase industry supply which lowers the market price. Chapter 7 Slide 7

Long-Run Competitive Equilibrium • Profit attracts firms • Supply increases until profit = 0 $ per unit of output Firm Industry S 1 LMC $40 LAC $30 P 1 S 2 P 2 D q 2 Chapter 7 Output Q 1 Q 2 Output Slide 8

Choosing Output in the Long Run n Long-Run Competitive Equilibrium 1) MC = MR 2) P = LAC u No incentive to leave or enter u Profit = 0 3) Equilibrium Market Price Chapter 7 Slide 9

Choosing Output in the Long Run n Economic Rent l Chapter 7 Economic rent is the difference between what firms are willing to pay for an input and minimum amount necessary to obtain it. Slide 10

Producer Surplus n Producer surplus measures the difference between the market price that a producer receives and the marginal cost of production. Chapter 7 Slide 11

Firms Earn Zero Profit in Long-Run Equilibrium Ticket Price LMC LAC A baseball team in a moderate-sized city sells enough tickets so that price is equal to marginal and average cost (profit = 0). $7 1. 0 Chapter 7 Season Tickets Sales (millions) Slide 12

Firms Earn Zero Profit in Long-Run Equilibrium Ticket Price Economic Rent LMC LAC $10 $7 A team with the same cost in a larger city sells tickets for $10. 1. 3 Chapter 7 Season Tickets Sales (millions) Slide 13