perfect competition

• perfect competition assumptions

  many buyers and sellers acting independently (no collusion)

  perfect information for buyers and sellers - helped by next assumption

  homogenous products - perfect substitutes

  no barriers to entry or exit

  all firms have equal access to factors of production

  firms are profit maximisers + consumers are utility maximisers

  perfectly elastic demand curve, firms are price takers

  no externalities

  no information failure

  no other type of market failure

  supported by a competitive labour market
• revenues, costs and profits for a competitive firm- perfect competition

  if most firms are making supernormal profits in the SR, encourages entry of new firms into the market, driven by profit motive

  will be an outward shift in supply + fall in market price

  increase in market supply will reduce ruling market price to where the P=LRAC

  at this point, all firms in the industry are making normal profits where P/AR=AC

  there is no further incentive for movement of firms in and out of the industry, ceteris paribus, + a long-run equilibrium is established where P=AC at an output where MR=MC
• revenues, costs and profits for competitive firm if firm is making a loss - perfect competition

  in the long run a firm will leave the market if they are not earning normal profit

  firms will stay in operation as long as it is covering its variable costs and ideally contributing towards its fixed costs, in long run it needs to cover all its costs

  supply shifts to the left, price rises, AR and MR will eventually rise
• perfect competition assumption - realistic + unrealistic

  most firms have some amount of price-setting power, price makers not takers

  dominance in real world markets of differentiated/branded products

  highly complex products, always information gaps facing consumers

  impossible to avoid search costs even with the spread of digital/web technology

  patents, control of intellectual property, control of key inputs are all ignored by the competitive model

  rare for entry and exit to be costless
• economic efficiency and perfect competition - allocative efficiency

  in both long and short run, P=MC so allocative efficiency is achieved when no one can be made better off without making some other agent worse off - achieve a pareto optimum allocation of resources
• economic efficiency and perfect competition - productive efficiency

  occurs when the equilibrium output is supplied at minimum AC

  attained in LR for competitive market
• economic efficiency and perfect competition - dynamic efficiency

  little scope for innovation

  designed purely to make products differentiated from each other
• assumption of perfect competition

  many buyers and sellers

  perfect information

  homogenous products

  no barriers to entry/exit