Mostly summarized from Gregory Mankiw’s
Principles of Economics, 5th
Ed.
PART 5 Firm Behavior
and the Organization of Industry
Chapter
14 of 36 Firms In Competitive Markets
Section
23 of 24
…
Figure
8 here
…
The market response of fi
rms to a change in demand depends on the time frame.
Firms
can enter and exit a market in the long run but not in the short run.
Consider
a market for milk, beginning at long-run equilibrium.
Milk-supplying
firms are earning zero economic profit, price equals the minimum of Average
Total Cost (ATC).
Figure
8 panel (a) shows this initial condition
·
quantity sold in the market is Q1
· price
is P1
· long-run
equilibrium is point A
…
Suppose
scientists discover milk has wondrous health benefits.
Panel
(b) shows the short-run response
· demand
curve for milk shifts from D1 to D2
·
quantity demanded and supplied rises from Q1 to Q2
· price
rises from P1 to P2
·
short-run equilibrium moves from point A to point B
· short-run
profits are generated, shown by the shaded area
…
All
existing firms respond to the higher price by increasing the amount they
produce
Since
each firm's supply curve is its marginal cost (MC) curve how much each increases
production is determined by their MC curve.
In the new short-run equilibrium the price
of milk exceeds ATC so the firms are making profits.
…
Over
time, the profit in the market induces new firms to enter.
Panel
(c) shows the long-run response.
As
the number of firms and quantity of milk supplied increases the supply curve
shifts to the right from S1 to S2.
This
shift causes the price of milk to fall
Eventually
price is driven back down to P1 at the minimum of ATC
·
quantity produced has risen to Q3
·
profits again are zero
· firms
stop entering the market
· the
market reaches a new long-run equilibrium, point C
Each
firm is again producing at its efficient scale because more firms are in the
dairy business.
The
price has fallen to P1 = ATC.
… …
Comments
Post a Comment