9.4 comparative statics for a competitive industry

• Comparative static analysis examines how the equilibrium price and quantity change when external factors (like costs or demand) shift. In this section, we will explore how shifts in costs or demand affect a competitive industry in both the short run and long run.
• Key concepts in comparative statics:

  short run equilibrium

  long run equilibrium
• In the short run, short-run supply curves and demand curves determine equilibrium. The market finds an equilibrium where the quantity demanded equals the quantity supplied at the prevailing price.
• The short-run equilibrium changes when there is a shift in demand or costs.
• In the long run, the long-run supply curve adjusts. Firms enter or exit the market based on profitability. The long-run equilibrium occurs when firms are earning normal profits (zero economic profit) and no further firms enter or exit.
• before a cost increase:

  • the industry is in short-run equilibrium
  • firms are producing at the lowest point on the Long run average costs curve
  • the long run industry supply curve is horizontal at the price level
• After the Cost Increase:

  • As costs rise, each firm's cost curves shift upward. The short-run average total cost curve and short-run average variable cost curve both shift up. This means that producing the same output now costs more for each firm.
  • The short-run marginal cost curve also shifts upward, representing the higher costs of producing additional units.
• When costs increase, each firm’s supply curve shifts upward. In the short run, the new supply curve, and the equilibrium price rises to. The quantity produced falls because higher prices reduce total output.
• In the long run, the number of firms in the industry adjusts as some firms exit due to higher costs. The long-run supply curve shifts, reflecting the new cost structure. The long-run equilibrium price rises and the total output falls when there is an increase in price.
• A rise in costs leads to higher prices and lower output in both the short run and long run. However, in the long run, the number of firms in the industry may decline, further reducing total industry output.
• Another scenario to consider is a shift in demand. Let’s say there is an increase in demand for the product in the industry.

  Initial Situation:

  • The industry is in long-run equilibrium

  After the Shift:

  • Demand increases, shifting the demand curve up. This causes a short-run increase in price because firms can't immediately increase output in response to higher demand.
  • In the short run, firms will increase production to meet the higher price, and the new short-run equilibrium is higher with higher price P and output Q.
• Long-Run Adjustment:

  • In the long run, new firms enter the market, increasing total output and pushing the price back down to a new long-run equilibrium.
• • Comparative Static Analysis:
  • It helps us understand how the equilibrium price and quantity change in response to shifts in demand or costs.
• Short-Run vs Long-Run:

  • In the short run, firms can adjust output based on their existing capacities, but the number of firms in the industry remains fixed.
  • In the long run, firms can enter or exit the market, leading to a more flexible adjustment of output and prices.
• Cost Increase:

  • A cost increase raises prices and reduces output in both the short run and long run.
  • In the long run, some firms may exit the industry, leading to lower output and higher prices.
• 1. Demand Shift:

  • An increase in demand leads to higher prices and output in the short run.
  • In the long run, new firms enter the market, increasing output and reducing prices from the short-run peak.