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ECONOMICS: EXERCISES
CLASS 5: COMPETITIVE FIRMS AND MARKETS
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Discussion Questions:
1. (a) Define pure competition. (b) What assumptions are necessary for a market to be perfectly
competitive, and explain why each of these assumptions is important. (c) Firms in competitive
markets are considered price takers, meaning they accept the market price as their own. Explain
what is meant by a price taker?
2. (a) What are the conditions necessary for perfect competition? (b)What are the two essential
features of competition? (c) In a price-taker
’
s market does the marginal revenue of each seller
equal the average revenue (price)? Why?
3. (a) Under what condition should a firm continue to produce in the short-run if it incurs losses at
the best level of output? (b) Are the normal returns on investment included in part of costs or as
part of profits in the economics of the firm? Why?
(4) Given a firm
’
s MC, ATC, AVC and with MR = P. Graph these cost curves and explain why a
firm in perfect competition would remain in production in the short run even though the current
market price is less than the average total cost (ATC). Note that the Marginal Revenue curve is
horizontal.
5. (a) Is the market supply curve for a product more or less price elastic than the supply curve of
the firms in the market? Why? (b) How is an increase in input prices shown on the firm
’
s short-
run marginal cost curve? Will this affect the competitive firm
’
s short-run marginal cost curve? (c)
Is the competitive firm
’
s short-run supply curve affected by a change in the firm
’
s costs? Why?
6. (a) What is the best level of output of a perfectly competitive firm in the long-run? (b) What is
the optimal scale of plant of a perfectly competitive firm when the firm is in long-run
equilibrium? (c) What is the best level of output and the optimal scale of plant when the
competitive market and firm are in long-run equilibrium?
7. (a) If a perfectly competitive firm in the long-run equilibrium, must the market also be in long-
run equilibrium? Explain your reasoning. (b) If a competitive market is in long-run equilibrium,
must a competitive firm in the market also be in long-run equilibrium? Explain your reasoning.
8. (a) If a competitive firm is in short-run equilibrium, must it also be in long-run equilibrium? (b)
If a competitive firm is in long-run equilibrium, must it also be in short-run equilibrium? (c)
Explain why a firm that incurs losses would choose to produce instead of closing down.
9. Why do firms decide to enter an industry when they are aware that in the long-run
economic profit will be zero?
10. (a) The supply curve for a firm in the short run is the short-run marginal cost curve (i.e.,
above the point of minimum average variable cost). Explain why the supply curve, in the long
run, is not the long-run marginal cost curve (i.e., above the point of minimum average total cost).
(b) In the long-run equilibrium, all firms in the industry earn zero economic profit. Explain why
this is the case. (c) What is the difference between economic profit and producer surplus?
