Answer to Question #249407 in Microeconomics for Babe

Question

Help me understand the Dialogue below:

Interpret and evaluate this dialogue with the aid of clearly labelled diagrams:

John: “How can competitive profits be zero in the long run? Who will work for nothing?”

Mary: “It is only excess profits that are wiped out by competition. Managers get paid for their work; owners get a normal return on capital in competitive long-run equilibrium—no more, no less.

Instructions use Harvard referencing Style

Answer 1

While operating in a perfectly competitive market, profits and losses are eliminated in the long run. The elimination is due to the infinite number of firms that join the business, thus producing infinitely indivisible homogenous products. However, eliminating profits does not mean the entire profit but the excess profit that a firm would have if there were barriers of entry and consumers had no perfect information. In such a case, the firm fails to have adequate power in the long run to influence the industry, thus eliminating all the possible ways of making a profit in a perfect competition model.

However, in the short run, the firm makes profits and losses and can pay its workers and investors.

Figure 1.1: Zero profits in the long run

If a firm is making profits, it will attract new firms to the industry in the long run. Panel $(a)$ shows the shift to the right in the supply curves as new firms enter the industry as the price of product falls. So long as new firms' product price exceeds the $ATC$ as shown in panel ($(b)$ more firms will continue to join the industry.

as the price continues to fall, the marginal revenues also fall to $MR_2$ ,​ which forces the firms to reduce the quantity supplied while moving along the marginal cost $(MC)$ to a point where the $ATC$ intersect.

Even though the output quantity from a single firm reduces due to reduced prices, the presence of many firms increases the total industry output n panel $(a)$.

References

Hall, M., 2021. Why Are There No Profits in a Perfectly Competitive Market?. [online] Investopedia. Available at: <https://www.investopedia.com/ask/answers/031815/why-are-there-no-profits-perfectly-competitive-market.asp> [Accessed 10 October 2021].

lardbucket, 2021. Perfect Competition in the Long Run. [online] 2012books.lardbucket.org. Available at: <https://2012books.lardbucket.org/books/microeconomics-principles-v2.0/s12-03-perfect-competition-in-the-lon.html> [Accessed 10 October 2021].