Changes in Technology
Our discussion of firms’ long-run decisions has assumed that all firms in
the industry have the same technology and thus the same cost curves. We
now relax that assumption and consider how a competitive industry
responds to technological improvements by new firms.
Consider a competitive industry in long-run equilibrium. Because the
industry is in long-run equilibrium, each firm must be earning zero
profits. Now suppose that some technological development lowers the
cost curves of newly built plants but no further advances are anticipated.
Because price is just equal to the average total cost for the existing plants
new plants will be able to earn profits, and some of them will now be
built. The resulting expansion in capacity shifts the short-run supply
curve to the right and drives price down.
The expansion in industry output and the fall in price will continue until
price is equal to the short-run average total cost of the new plants. At this
price, old plants will not be covering their long-run costs. As long as price
exceeds their average variable cost, however, such plants will continue in
production. As the outmoded plants wear out or become too costly to
operate, they will gradually be closed. Eventually, a new long-run
equilibrium will be established in which all plants will use the new
technology; market price will be lower and output higher than under the
old technology.