ECN 201:

Principles of Microeconomics
Lecture : 11
Behavior of perfectly competitive market
Dr. Syed Manzur Quader
Assistant Professor, School of Business
Chittagong Independent University

Behavior of perfectly competitive market:

A market with many buyers and sellers trading identical products so that each buyer
and seller is a price taker is called perfectly competitive market. The model of perfect
competition is based on the following assumptions.
Large number of sellers and buyers:
Action of any one seller or buyer alone cannot affect the price in the market. Each buyer and
seller takes the market price as given.

Product homogeneity:
All firms in the market produce homogenous product.

Free exit and entry of firms:

No barrier to entry or exit from the industry

Profit maximization:
This is the main goal of all firms.

No government regulation:
No government intervention like tariffs, subsidies will be there in the market.

Perfect knowledge:
All sellers and buyers have complete knowledge of the conditions of the market.

Behavior of perfectly competitive market:

Profit maximization of a competitive firm:

A firm in a competitive market, like most other
firms in the economy, tries to maximize profit. As
you know now, any single buyer or seller in the
market cannot affect the price. They are called
price takers. But competitive firms should
determine the level of output, which will
maximize their profits.
3

Behavior of perfectly competitive market:

The price taking behavior of a perfectly
competitive firm can be shown as beside:
The usual market demand and supply
curves are on the left. But demand curve
to a perfectly competitive firm will look
horizontal like the one on the right. As
the individual firm in perfect competition
is a price taker, it will face a perfectly
elastic demand curve, which indicates
that the firm can sell any amount of
output at the prevailing market price.
Again, as this firm is small compared to
the whole market, it will not be able to
affect the market price by changing its
supply.

MS

MD

Behavior of perfectly competitive market:

Total and average revenue:

As you know,
Total revenue =PXQ
So, AR = TR/Q = PXQ/Q=P
For all firms, average revenue equals price of the good.

Behavior of perfectly competitive market:

Marginal revenue:
MR is change in total revenue by selling the last unit of
output.
Suppose, you are selling 20 unit of goods at the rate of
Tk.10
So, your total revenue will be, TR = PXQ = 10X20 =200.
Now, after selling another unit, your TR becomes 220.So,
additional Tk.20 will be your marginal revenue.
For a competitive firm, when Q rises by 1 unit, total
revenue will rise by P unit and this will be same at any
level of output as selling any addition output will not
affect the market price P.
6

Behavior of perfectly competitive market:

So, for competitive firms, marginal revenue equals price of the good.
Q

TR

AR

MR

TC

MC

12

18

12

24

17

30

23

36

30

42

38

48

47

Profit
-3

Behavior of perfectly competitive market:

Equilibrium or profit maximization point for a competitive firm:
A competitive firm can find its profit maximizing quantity by
comparing the marginal revenue and marginal cost from each unit
produced.
If for any unit of production, MR>MC, then producing that unit will
increase profit.
And as long as this condition holds, increasing the quantity
produced raises profit.
On the other hand, if for any unit of production, MR<MC, then
producing that unit will lower profit.
The maximum profit output comes at that point, where MR =MC.

Behavior of perfectly competitive market:

And you know, for a competitive
firm,
MR=AR=P.

So, profit maximizing condition or

equilibrium condition for a
perfectly competitive firm will
be:

MC
ATC
P=AR=MR

P=AR=MR=MC

And, slope of MC>slope of MR, or

MC should be rising at the level
of intersection with the MR
curve.

Behavior of perfectly competitive market:

Measuring profit for
the competitive firm:
Profit = TR-TC
= (TR/Q TC/Q) Q
= (AR ATC) Q
= (P-ATC) Q
So, you can see from the above graph, when demand curve is dd1 then,
AR = MR =P1.At that level of price, the firm can get profit equal to the shaded
area.

10

Behavior of perfectly competitive market:

MC
ATC

P=AR=MR
ATC*

Q
Q*

11