Pricing and output decisions

in perfect competition
In the long run, the price in the
competitive market will settle at the point
where firms earn a normal profit

economic profit invites entry of new firms

shifts the supply curve to the right puts
downward pressure on price and reduces profits
economic loss causes exit of firms shifts the
supply curve to the left puts upward pressure
on price and increases profits

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Pricing and output decisions
in perfect competition
Observations in perfectly competitive markets:
the earlier the firm enters a market, the better
its chances of earning above-normal profit

as new firms enter the market, firms must find

ways to produce at the lowest possible cost, or
at least at cost levels below those of their
competitors

firms that find themselves unable to compete on

the basis of cost might want to try competing on
the basis of product differentiation instead
Chapter Eight Copyright 2011 Pearson Education, Inc. 2
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Pricing and output decisions in
monopoly markets
A monopoly market consists of one firm
(the firm is the market)

firm has the power to set any price it

wants

however, the firms ability to set price is

limited by the demand curve for its
product, and in particular, the price
elasticity of demand
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Publishing as Prentice Hall.
Pricing and output decisions in
monopoly markets
Assume demand is
linear: it is downward
sloping because the
firm is a price setter

Assume MC is
constant
choose output
where MR=MC, set
price at P*

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Publishing as Prentice Hall.
Pricing and output decisions in
monopoly markets
Demand is the same
as before, as is MR

MC is upward sloping,
which shows
diminishing returns

set output where

MR=MC

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Implications of perfect
competition and monopoly for
decision making market
Perfectly competitive

most important lesson is that it is

extremely difficult to make money

must be as cost efficient as possible

it might pay for a firm to move into a

market before others start to enter

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Publishing as Prentice Hall.
Implications of perfect
competition and monopoly for
decision
Monopoly making
market

most important lesson is not to be

arrogant and assume their ability to
earn economic profit can never be
diminished

changes in economics of a business

eventually break down a dominating
companys monopolistic power
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Global application
Example: Bluefin tuna

sushi restaurants operate in
monopolistic competition
bluefin tuna price determined by

perfect competition
low profit margin

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