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Example 6E: Same as Example 6C, but price falls to $4.
Price Quantity MR MC AVC ATC TR TC Profit
$4 0 X X X X $0 $12 $-12
4 1 $4 $5 $5.00 $17.00 4 17 -13
4 2 4 6 5.50 11.50 8 23 -15
4 3 4 7 6.00 10.00 12 30 -18
4 4 4 8 6.50 9.50 16 38 -22
4 5 4 9 7.00 9.40 20 47 -27
4 6 4 10 7.50 9.50 24 57 -33
4 7 4 11 8.00 9.71 28 68 -40
4 8 4 12 8.50 10.00 32 80 -48
4 9 4 13 9.00 10.33 36 93 -57
Since price is below ATC for every quantity of output, Percomp Company will incur an economic
loss whatever quantity of output it produces. Should Percomp Company shut down? Since price
is also below Average Variable Cost for every quantity of output, Percomp can minimize its loss
by producing zero units (shutting down). Thus, the shutdown point occurs if price falls below
Average Variable Cost. By shutting down, the firm limits its loss to its fixed costs ($12). If the firm
produces, it will incur a loss greater than its fixed costs.
The Supply Curve for a Perfect Competitor
A supply curve indicates the quantity supplied at different prices. We have seen in Examples 6C,
6D, and 6E that a perfect competitor will produce the quantity of output where price equals
marginal cost, as long as the price is greater than average variable cost. If the price falls below
AVC, the perfect competitor will shut down. Thus, the supply curve for a perfect competitor is the
portion of the firm’s marginal cost curve that lies above the shutdown point.
Perfect Competition in the Long Run
In a perfectly competitive market, will the price be high enough that firms earn economic profits?
Or will the price be so low that firms suffer economic losses? Either of these situations may occur
in the short run. But in the long run, either economic profits or losses will be eliminated, and price
will equal minimum Average Total Cost.
To see how economic profits or losses are eliminated in the long run, we will refer back to
previous examples. In Example 6C, the market price was $10 and Percomp Company (along with
the other firms in the market) was earning economic profit. If economic profits are available in a
perfectly competitive market, new firms will be attracted to the market. Remember that perfect
competition is characterized by freedom of entry and exit. As new firms enter the market, the
market supply increases, and the market price decreases. As long as the market price is above
Average Total Cost for some quantities of output, economic profits will be earned, new firms will
continue to enter the market, and the market price will continue to decrease.
What if market price is below Average Total Cost for all quantities of output (as in Example 6D)?
If price is below Average Total Cost for all quantities of output, Percomp Company (along with the
other firms in the market) will suffer economic loss. If economic losses are occurring in a perfectly
competitive market, existing firms will be motivated to leave the market. As existing firms exit the
market, the market supply decreases, and the market price increases. As long as the market
price is below Average Total Cost for all quantities of output, economic losses will occur, existing
firms will continue to exit the market, and the market price will continue to increase.
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Perfect Competition 21 - 6