What you will learn
in this Module:
584 section 11 Market Structures: Perfect Competition and Monopoly
- How^ a^ price-taking^ firm
determines its
profit-maximizing quantity
of output - How^ to^ assess^ whether^
or not a competitive firm
is profitable
Module 58
Introduction to
Perfect Competition
Recall the example of the market for organic tomatoes from our discussions in Section 10.
Jennifer and Jason run an organic tomato farm. But many other organic tomato farmers,
such as Yves and Zoe, sell their output to the same grocery store chains. Since organic
tomatoes are a standardized product, consumers don’t care which farmer produces the
organic tomatoes they buy. And because so many farmers sell organic tomatoes, no indi-
vidual farmer has a large market share, which means that no individual farmer can have a
measurable effect on market prices. These farmers are price-taking producers and their
customers are price-taking consumers. The market for organic tomatoes meets the two
necessary conditions for perfect competition: there are many producers each with a small
market share, and the firms produce a standardized product. In this module, we build
the model of perfect competition and use it to look at a representative firm in the market.Production and Profits
Jennifer and Jason’s tomato farm will maximize its profit by producing bushels of
tomatoes up to the point at which marginal revenue equals marginal cost. We know
this from the producer’soptimal output ruleintroduced in Module 53—profit is maxi-
mized by producing the quantity at which the marginal revenue of the last unit pro-
duced is equal to its marginal cost. Always remember, MR=MCat the optimal quantity
of output. This will be true for any profit-maximizing firm in any market structure.
We can review how to apply the optimal output rule with the help of Table 58.1,
which provides various short-run cost measures for Jennifer and Jason’s farm. The sec-
ond column contains the farm’s variable cost, and the third column shows its total cost
of output based on the assumption that the farm incurs a fixed cost of $14. The fourth
column shows their marginal cost. Notice that, in this example, the marginal cost ini-
tially falls as output rises but then begins to increase, so that the marginal cost curve
has the familiar “swoosh” shape.
The fifth column contains the farm’s marginal revenue, which has an important
feature: Jennifer and Jason’s marginal revenue is constant at $18 for every output level.