The price and output decisions for profit-maximizing firms under conditions of perfect competition, monopolistic competition, and oligopoly vary according to each market structure. All firms maximize profits at the price and output level where marginal revenue (MR) = marginal cost (MC), but under different market structures, firms have different demand curves and therefore different revenue structures. Depending on the market structure, profit-maximizing firms make different price and output decisions, and these decisions have different social implications.
In a perfectly competitive market, firms can't
control prices because goods have perfect substitutes, there are a very large
number of sellers (and buyers), and firms can easily enter and exit the market.
Instead, prices are determined collectively by market supply and demand. The demand curve, then, is perfectly elastic and
average revenue (AR) = MR = price (P). Although firms in perfectly competitive
markets can’t control prices, they can control their level of output, which
they set at the profit-maximizing level of MR = MC. Because P is equal to MR, P
is also equal to MC at the profit-maximizing level. As a result, perfectly
competitive markets are characterized by pure al
locative efficiency –
the cost to society for producing another unit is exactly equal to what society
pays for that unit. Resources are allocated to allow the maximum possible net benefit, and consumers can get more goods at
lower prices than under any other market structure.
The
equilibrium is the point where economic forces are balanced and there are no external influences.
The equilibrium is the condition where a market price is
established through competition such that the amount of goods or services sought by buyers is
equal to the amount of goods or services produced by sellers.
A perfectly competitive market has many distinguishing factors. A market in perfect competition has many people who are willing and able to buy a product as well as a many buyers who are willing and able to produce the products. The products the firms supply are exactly the same. Another distinguishing characteristic in a perfectly competitive market is that there are low entry and exit barriers to the market,
and it is relatively
Under prefect competition how equilibrium price and output are determined this are given below ------
Large number of buyers and sellers: It is assumed that in pure competition market
there should be
a large number of buyers and sellers. If it is so, the output of any single firm is only a small proportion
of the total output and each consumer buys small part of the total. Hence no individual purchaser can influence the market price by varying his own demand and no single firm is in the position to affect
the market price by varying its own output.
Homogenous product:
The commodity produced by all firms should be identical in pure competition. Thus the commodity produced
by different firms are perfect substitutes. Hence the buyers are indifferent as to the firm from which they purchase.
Perfect competition is
wider term than pure competition. Besides the two conditions of pure competition
mentioned above several other conditions must be fulfilled to make it a
perfect competition.
Free entry and exit: There should be no restrictions legal or other on the firms to entry and exit the industry. In this situation all the firms can earn only normal profit. Because if the profit is more than
the normal, new firms will enter and extra profit will be reduced and if the profit is less than normal, some firms will leave the industry raising the profits for the remaining firms. Hence the firms can earn normal profit in long run.
Perfect knowledge: Another assumption of perfect competition is that the purchasers and sellers should have perfect knowledge about costs, price and quality. Due to this fact neither the seller can charge
more than the ruling price nor the purchaser
are willing to pay more.
Free mobility of the resources: The mobility
of resources is
essential to the firms in order to adjust their supply to demand. If the demand exceeds supply additional factors of production move into the industry
and vice versa.