competition doesn't imply ideal results are produced or economic welfare is
characteristics of perfect competition
There are many buyers and sellers in the market place, none of
whom are large enough to influence the price. Sellers are described as being
There is freedom of entry and exit into the market, i.e.,
barriers to entry are low. Firms must be able to establish themselves quickly
in the marketplace.
Buyers and sellers have perfect knowledge, economic agents are
fully informed of prices and output in the industry.
All firms produce a homogeneous (identical) product.
agriculture industry is the most commonly used example of perfect
competition, it satisfies the above criteria as follows:
There are a large number of buyers and sellers in a massive
It is easy to buy a farm and equally easy to sell it.
Farmers know the current market prices for agricultural goods
as they are frequently published.
Farmers produce a range of homogeneous goods.
governments intervene in the agricultural market by fixing prices or giving
of the good is determined in the marketplace via the normal interactions of
demand and supply. The
individual firm must accept that price, therefore it faces a perfectly
elastic demand curve. If the firm raises its price above that which is set in
the market it will lose all of its customers, as it is possible to buy an
identical good elsewhere cheaper. The demand curve also equals the AR and MR.
and supply curves
shortrun a firm won't necessarily shut down production if it's making a loss.
If a firm has fixed costs of £100, variable costs of £150 and a revenue of
£200, it can be seen that by operating the firm loses £50 (£200-£150-£100),
but if it was to close down it would incur losses of £100, therefore it make
sense to continue operating even at the smaller loss. This is because the
firm has fixed costs that it has to pay whatever the level of production,
even if it's zero. Any revenue left over after the variable costs have been
paid will make a contribution to the fixed costs, this is called loss
shortrun supply curve will be that part of the MC that is above the SRAVC. In
the diagram overleaf, the supply curve will therefore be the part of the MC
above P1. The MC is used as the supply curve, because it shows the
price that the firm is able to supply an extra unit of output for.
factors of production are variable in the longrun, no distinction is made
between fixed and variable costs, a longrun average cost curve is used (LRAC).
In the longrun a firm will leave the industry if it's making an economic
loss, i.e., cost is greater than revenue. The longrun supply curve is
therefore the part of the MC above the LRAC.
equilibrium price is determined in the by the industry demand and supply
curves. Individual firms accept this price to sell their goods at because
they are price takers and they supply the level of output that maximises
their output. In the diagram below, the firm is making abnormal profits as
the AR is greater than the AC at the profit maximising level of output
is also possible that the firm will be making an economic loss, AR less than
profits could be earned by the firm where AR=AC.
abnormal profits are being earned, other firms will want to enter the
industry shifting the industry supply curve to the right from S1
to SL, lowering the price from P1 to PL. The
firm's demand curve shifts downwards from D1 to DL
where only normal profits are made, as AR=AC, at the profit maximising level
of output (MR=MC). This is the longrun equilibrium position as there is no
incentive for firms to enter or leave the industry, this is shown in diagram
are being made in the long run firm will leave the industry, shifting the
industry supply curve to the left from S1 to SL,
raising the price from P1 to PL. The firm's demand
curve shifts upwards from D1 to DL where normal profits
are made, as AR=AC, at the profit maximising level of output (MR=MC). Again
this is the longrun equilibrium position as there is no incentive for firms
to enter or leave the industry, this is shown in diagram the below.
Perfect Competition PowerPoint Model
Perfect Competition PowerPoint Presentation
Shut Down Price
Produced by Geoff Riley at RGS Newcastle
Produced by Drexel University
Produced by Drexel University
Perfect Competition Interactive Test
Produced by Oklahoma State University
Perfect Competition Worksheet