Perfect Competition, Price discrimination and Olygopoly (Main Concepts)
Competitive Equilibrium & Efficiency: Perfectly competitive market
The perfectly competitive market has 3 main characteristics:
Absence of transaction costs -> perfect information among buyers and sellers
o Products homogeneity -> markets consist of only one homogeneous product,
o so buyers don't perceive any differentiated product such as substitutes to the
No entry barriers -> it implies a large number of buyers and sellers, who can
o increase to decrease the quantity sold without affecting the market price (price
Over time the number of firms that operates in a market can change, because new
entrants may begin producing if it is profitable for them. Whereas in the short run
the active firms remain fixed and are the only ones who can produce output.
Short-run curve: is the horizontal sum of the individual supply curve of all
currently active firms.
Long-run curve: is the horizontal sum of the individual supply curves of all the
Indeed, the long-run curve is represented as a horizontal, infinitively elastic supply
curve, due to the free entry.
In a perfectly competitive market there is free entry, which means that any
potential firm who whishes to enter a certain market has the possibility to
achieve the same technology of all others In this case, the number of potential
firms is unlimited.
Free entry is a basic assumption given by the fact that technological
knowledge diffuses over time and some patents may expire, making
technology available to anyone to whishes to enter a market. efficient scale of
Therefore, in the long-run supply curve all firms will produce at the
production - amount of output where the AC reaches its minimum (AC = MC),
denoted as Q -
e as a consequence, their profit will be zero.
Why at the efficient scale of production?
The efficient scale of production doesn’t mean that firms should produce at this
amount, however. Rather, it tells us that if we want to produce a large amount
of output with the least cost production, we should try to divide it up among all
the current firm, each of which will produce at e
When P = AC = MC firms will be indifferent between producing Q or nothing.
Under AC firms will produce 0 and make negative profits. Whereas, if they
produce above AC they can produce an infinitive number of outputs.
Therefore, as this explanation we can better understand the concept of competitive
equilibrium in the long run and its implications. competitive equilibrium
Firstly, we must clarify that we refer to the because we
are in a perfectly competitive market. At this point the market clears (D=S).
Moreover, there are two basic assumptions:
There are NO SUNK costs in the long run
o FREE EXIT
The free entry has 3 implications for the market equilibrium, due to the reasons
P = AC because the market supply with free entry is a horizontal line at price AC
Firms earn 0 profits
All firms produce at Q in order to achieve the a large production of output at the
o least cost production.
Furthermore, it is important to know the number of active firms in the long-run : N
Whereas, in the short-run the number of firms is fixed.
When do firms enter the market?
Potential firms will enter the market in response to the profit opportunity that
emerges when short-run equilibrium prices rises above AC .
Consider first the LONG RUN competitive equilibrium:
o P = AC -> substitute P* into Q, in order to find the quantity
produced in the long run;
Profits are zero
N = Q*/Q for finding the number of active firm, each of which
produces at the efficient scale of production.
Find the SHORT RUN competitive equilibrium:
o Determine the supply curve S(P):
1. QUANTITY RULE: P = MC
2. SHUT DOWN RULE: Profits > 0 ? P > AC min ?
In case there are sunk costs, you have to take
the average avoidable costs AAC,
into account and
equate it to MC -> AAC min
After having found the supply curve multiply it for the number of active
firms and D = S,
The price will be above P* > AC min, hence firms will register positive
Therefore, we expect many firms to enter the market, so the price will be
drawn down to AC min again.
Why do we talk about aggregate surplus?
The aggregate surplus measures the efficiency of an economy. In other words, a
market is economically efficient if it maximizes the social surplus. The latter equals
the sum of the CS consumer surplus and the PS producer surplus.
Aggregate Surplus = total Willingness To Pay - total avoidable costs of
How do we measure them?
o The total WTP equals the area under the market demand curve up to the
quantity consumed. This is true if the quantity of goods are consumed by
the costumers who face the highest willingness to pay (which is true
whenever all consumers face the same price)
Total avoidable cost equal the area under the supply curve up to the
quantity of goods produced by those firms with the lowest avoidable
Consumer surplus = WTP - total
Producer surplus = profits - sunk Revenues - total avoidable
Being economically efficient means also that any alternative outcome that makes
someone better off it must make somebody else worse off. A particular output of
this kind is the Pareto Optimal, which is an economic output at which is
impossible to make anyone better off without making someone else worse off.
Deadweight loss: is the reduction of the aggregate surplus below its maximum
value. Perfectly competitive markets maximize the aggregate surplus,
o the price taker firms
because set their price equal to the marginal cost for
maximizing their profits. Therefore, there is no deadweight loss.
Why do firms price discriminate?
Price discrimination is a economic technique to increase profits by seeking to satisfy
the needs of a larger range of customers. In fact, a monopolist could increase its
profits by: Charging more the units for those costumers that are willing to pay
o more for the output,
Reducing the charge over those units, for which costumers do not
o have such a high willingness to pay.
Naturally, in order to compute price discrimination market power is needed and also
an ability to distinguish costumers' WTP.
This process is called prefect price discrimination, when the firm is able to
determine the different levels of consumers' WTP and consequently charge different
prices for each unit it sells.
However, sometimes firms aren't able to determine such a perfect pricing for each
WTP. But, if they are clever they can use different techniques of price discrimination
based on : Observable characteristic : when a firm can distinguish, even if
o imperfectly , consumers with a high versus low WTP
Self selection: when firms offer a menu of alternatives, designed
o so that the different costumers will make their own decision based on their
Quantity depended: or volume sensitive pricing plan: is the price
o that a costumer pays of each extra unit, that depend on how many units the
consumer has bought.
Perfect price discrimination MR = D = MC
Since a perfectly discriminating monopolist collects an amount equal to the
consumer WTP for each unit, its marginal revenues coincides with the demand
curve, so perfect price discrimination is similar to the perfect competition:
MR = D = MC
Production = consumption
With perfect price competition the producer produce the exact amount that the
consumer consumes. Moreover, the seller produces exactly the same quantity as
7 mesi fa
I contenuti di questa pagina costituiscono rielaborazioni personali del Publisher beatrice_fontana di informazioni apprese con la frequenza delle lezioni di Microeconomics 2 e studio autonomo di eventuali libri di riferimento in preparazione dell'esame finale o della tesi. Non devono intendersi come materiale ufficiale dell'università Ca' Foscari Venezia - Unive o del prof Corazzini Luca.
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