• Short run: firms that shut down \((q^*=0)\) stuck in market, incur fixed costs \(\pi=-f\)

• Short run: firms that shut down \((q^*=0)\) stuck in market, incur fixed costs \(\pi=-f\)

• Long run: firms earning losses \((\pi < 0)\) can exit the market and earn \(\pi=0\)

  • No more fixed costs, firms can sell/abandon \(f\) at \(q^*=0\)

• Short run: firms that shut down \((q^*=0)\) stuck in market, incur fixed costs \(\pi=-f\)

• Long run: firms earning losses \((\pi < 0)\) can exit the market and earn \(\pi=0\)

  • No more fixed costs, firms can sell/abandon \(f\) at \(q^*=0\)

• Entrepreneurs not currently in market can enter and produce, if entry would earn them \(\pi>0\)

• Now we must combine optimizing individual firms with market-wide adjustment to equilibrium

• Since \(\pi = [p-AC(q)]q\), in the long run, profit-seeking firms will:

• Now we must combine optimizing individual firms with market-wide adjustment to equilibrium

• Since \(\pi = [p-AC(q)]q\), in the long run, profit-seeking firms will:

  • Enter markets where \(p>AC(q)\)

• Now we must combine optimizing individual firms with market-wide adjustment to equilibrium

• Since \(\pi = [p-AC(q)]q\), in the long run, profit-seeking firms will:

  • Enter markets where \(p>AC(q)\)
  • Exit markets where \(p<AC(q)\)

• Long-run equilibrium: entry and exit ceases when \(p=AC(q)\) for all firms, implying normal economic profits of \(\pi=0\)

• Long-run equilibrium: entry and exit ceases when \(p=AC(q)\) for all firms, implying normal economic profits of \(\pi=0\)

• Zero Economic Profits Theorem: long run economic profits for all firms in a competitive industry are 0

• Firms must earn an accounting profit to stay in business

• Recall, we've essentially defined a firm as a completely replicable recipe (production function) of resources

$$q=f(L,K)$$

• “Any idiot” can enter market, buy required \((L,K)\) at prices \((w,r)\), produce \(q^*\) at market price \(p\) and earn the market rate of \(\pi\)

• Zero long run economic profit \(\neq\) industry disappears, just stops growing

• Less attractive to entrepreneurs & start ups to enter than other, more profitable industries

• These are mature industries (again, often commodities), the backbone of the economy, just not sexy!

• All factors being paid their market price

  • i.e. their opportunity cost - what that they could earn elsewhere in economy

• Firms earning normal market rate of return

  • No excess rewards (economic profits) to attract new resources into the industry, nor losses to bleed resources out of industry

• But we've so far been imagining a market where every firm is identical, just a recipe “any idiot” can copy

• What about if firms have different technologies or costs?

• Supply function relates quantity to price

• Not graphable (wrong axes)!

• Inverse supply function relates price to quantity
  • Take supply function, solve for \(p\)

• Graphable (price on vertical axis)!

• Slope: 0.5

• Vertical intercept called the "Choke price": price where \(q_S=0\) ($2), just low enough to discourage any sales

• Read two ways:

• Horizontally: at any given price, how many units firm wants to sell

• Vertically: at any given quantity, the minimum willingness to accept (WTA) for that quantity

• Price elasticity of supply measures how much (in %) quantity supplied changes in response to a (1%) change in price

$$\epsilon_{q_S,p} = \frac{\% \Delta q_S}{\% \Delta p}$$

$$\epsilon_{q,p} = \mathbf{\frac{1}{slope} \times \frac{p}{q}}$$

• First term is the inverse of the slope of the inverse supply curve (that we graph)!

• To find the elasticity at any point, we need 3 things:

  1. The price
  2. The associated quantity supplied
  3. The slope of the (inverse) supply curve

What determines how responsive your selling behavior is to a price change?

• More (less) time to adjust to price changes \(\implies\) more (less) elastic
  • Supply of oil today vs. oil in 10 years