Explain how each of the assumptions of perfect competition

Question

1. Explain how each of the assumptions of perfect competition contributes to the fact that all decision makers in perfect competition are price takers.
2. If the assumptions of perfect competition are not likely to be met in the real world, how can the model be of any use?
3. Explain the difference between marginal revenue, average revenue, and price in perfect competition.
4. Suppose the only way a firm can increase its sales is to lower its price. Is this a perfectly competitive firm? Why or why not?

 

1. The graph below provides revenue and cost information for a perfectly competitive firm producing paper clips.

   1	$1,000	$1,500	$500
   2	$2,000	$2,000	$500
   3	$3,000	$2,600	$500
   4	$4,000	$3,900	$500
   5	$5,000	$5,000	$500

   1. How much are total fixed costs?
   2. About how much are total variable costs if 5,000 paper clips are produced?
   3. What is the price of a paper clip?
   4. What is the average revenue from producing paper clips?
   5. What is the marginal revenue of producing paper clips?
   6. Over what output range will this firm earn economic profits?
   7. Over what output range will this firm incur economic losses?
   8. What is the slope of the total revenue curve?
   9. What is the slope of the total cost curve at the profit-maximizing number of paper clips per hour?
   10. At about how many paper clips per hour do economic profits seem to be at a maximum?
2. Suppose rocking-chair manufacturing is a perfectly competitive industry in which there are 1,000 identical firms. Each firm's total cost is related to output per day as follows:

   0	$500	5	$2,200
   1	$1,000	6	$2,700
   2	$1,300	7	$3,300
   3	$1,500	8	$4,400
   4	$1,800

   1. Prepare a table that shows total variable cost, average total cost, and marginal cost at each level of output.
   2. Plot the average total cost, average variable cost, and marginal cost curves for a single firm (remember that values for marginal cost are plotted at the midpoint of the respective intervals).
   3. What is the firm's supply curve? How many chairs would the firm produce at prices of $350, $450, $550, and $650? (In computing quantities, assume that a firm produces a certain number of completed chairs each day; it does not produce fractions of a chair on any one day.)
   4. Suppose the demand curve in the market for rocking chairs is given by the following table:

      $650	5,000	$450	7,000
      $550	6,000	$350	8,000

      Plot the market demand curve for chairs. Compute and plot the market supply curve, using the information you obtained for a single firm in part (c). What is the equilibrium price? The equilibrium quantity?
   5. Given your solution in part (d), plot the total revenue and total cost curves for a single firm. Does your graph correspond to your solution in part (c)? Explain.
3. The following table shows the total output, total revenue, total variable cost, and total fixed cost of a firm. What level of output should the firm produce? Should it shut down? Should it exit the industry? Explain.

   1	$1,000	$1,500	$500
   2	$2,000	$2,000	$500
   3	$3,000	$2,600	$500
   4	$4,000	$3,900	$500
   5	$5,000	$5,000	$500