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Chia-Hui Chen
Lecture 15
Short Run and Long Run Supply
Outline
1. Chap 8: Profit Maximization
2. Chap 8: Short Run Supply
3. Chap 8: Producer Surplus
4. Chap 8: Long Run Competitive Equilibrium
1 Profit Maximization
For perfect competition in a product market, we make some assumptions:
• Price taking: either individual firms or consumers cannot affect the price.
• Product homogeneity: product of all firms are perfect substitutes.
• Free entry and exit: no special cost to enter or exit the market.
Firms choose the level of output to maximize their profits. Profit equals
total revenue minus total cost, namely
Cite as: Chia-Hui Chen, course materials for 14.01 Principles of Microeconomics, Fall 2007. MIT
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2 Short Run Supply 2
thus
M C(q) = P = M R = AR
is the maximization condition. Note that the condition is not sufficient. In
Figure 1), if the price is P2 , q2 and q3 both satisfy the condition, but only q3
maximizes the profit.
10
7 P1
6
MC
C
2
P 2
1
q q q1
2 3
0
0 1 2 3 4 5 6 7 8 9 10
q
dQ/Q
ES = .
dP/P
Figure 4 and 5 stand for inelastic and elastic supply curves, respectively.
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OpenCourseWare (http://ocw.mit.edu), Massachusetts Institute of Technology. Downloaded on [DD Month
YYYY].
2 Short Run Supply 3
10
8 MC
P1
7
6 ATC
5
C
P2
3
2 AVC
P3
0
0 1 2 3 4 5 6 7 8 9 10
q
10
6 MC1
Market Supply
5 MC2
P
0
0 1 2 3 4 5 6 7 8 9 10
q
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OpenCourseWare (http://ocw.mit.edu), Massachusetts Institute of Technology. Downloaded on [DD Month
YYYY].
2 Short Run Supply 4
10
5 MC
P
0
0 1 2 3 4 5 6 7 8 9 10
q
10
6 MC
5
P
0
0 1 2 3 4 5 6 7 8 9 10
q
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OpenCourseWare (http://ocw.mit.edu), Massachusetts Institute of Technology. Downloaded on [DD Month
YYYY].
2 Short Run Supply 5
10
6
P
0
0 1 2 3 4 5 6 7 8 9 10
q
10
6
P
0
0 1 2 3 4 5 6 7 8 9 10
q
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OpenCourseWare (http://ocw.mit.edu), Massachusetts Institute of Technology. Downloaded on [DD Month
YYYY].
3 Producer Surplus 6
Similarly, we have perfectly inelastic market supply (see Figure 6) and perfectly
elastic market supply (see Figure 7).
Perfectly elastic market supply happens when
M C = const.
3 Producer Surplus
Producer Surplus is the difference between the firm’s revenue and the sum of
the total variable cost of producing q (see Figure 8):
P S = R − T V C = R − T V C − F C + F C = P rof it + F C.
6 MC
4
P
3 AVC
0
0 1 2 3 4 5 6 7 8
q
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OpenCourseWare (http://ocw.mit.edu), Massachusetts Institute of Technology. Downloaded on [DD Month
YYYY].