Answer to Question #131120 in Microeconomics for sohrab

Question

Why does a competitive firm make normal profits in long run?

Answer 1

In the long run all costs of the firm are variable, the firm can change the scale of production, decide to leave or enter the industry. Due to the free entry and exit of firms, their number in the competitive market is changing. The study of the process of the competitive industry reveals a phenomenon called the profit paradox. Firms freely enter the industry to get excess profits, and leave it to avoid losses, they are constantly looking for an industry where they can maximize economic profits, and as a result, when there is a long-term equilibrium, everyone makes a profit. In the long run, firms making abnormal profit will attract new firms, which will enter freely due to the two assumptions already stated. This would increase the industry supply, which will decrease the industry price. New firms will stop entering the market when existing firms make zero economic profit.