Firms' Short-Run Decisions to Produce and Long-Run Decisions to Enter or Exit a Market

Paul Scott
9 min read
Study Guide Overview
This study guide covers perfectly competitive markets, focusing on firm entry and exit. Key concepts include the shutdown rule (P < AVC), short-run vs. long-run decision-making, impacts of profit and loss on market supply, and achieving long-run equilibrium (zero economic profit). It also provides practice questions with graph analysis and scenario application.
#AP Microeconomics: Market Entry & Exit - Your Night-Before Guide
Hey! Let's get you prepped for the exam with a super focused review of market entry and exit. We'll break down the key concepts, look at some graphs, and make sure you're feeling confident. Let's do this! 💪
#Perfectly Competitive Markets: The Basics
Key Concept
- Many Sellers: Lots of firms are competing.
- Low Barriers to Entry/Exit: Easy for firms to start or stop production.
- Price Takers: Firms accept the market price; they don't set it.
# Entering vs. Exiting
- Entering: A firm starts producing and selling goods (quantity > 0).
- Exiting: A firm stops producing, but might still exist as a company (quantity = 0).
#The Shut-Down Rule: Short-Run Decisions
# When to Shut Down
- In the short run, firms have fixed costs they must pay regardless of production.
- Firms compare Total Revenue (TR) to Total Variable Cost (TVC) or Price (P) to Average Variable Cost (AVC).
Key Concept
Shutdown Rule: If P < AVC, the firm should shut down and only pay fixed costs.
Memory Aid
- Think: "If you can't cover your variable costs, don't produce! Just pay the fixed costs."
#Visualizing the Shutdown Point
- Below, the firm should shut down because the price (
5) is less than the AVC (
7) at the profit-maximizing quantity (10).
- Caption: The firm will shut down at a quantity of 10 because the price (
5) is less than the average variable cost (
7).
#Example
- TR =
50 (10 units x
5/unit) - TC =
120 (10 units x
12/unit) - Loss if operating =
70 (
50 - $120) - Fixed Cost (FC)=
50 (AFC of
5 x 10 units). Remember, AFC is the vertical distance between ATC and AVC. - Decision: Shut down because
50 (fixed cost) <
70 (loss if operating).
Quick Fact
- Producer Surplus (PS) = TR - TVC. If P < AVC, PS is negative, which is another way to see why firms shut down.
#Long-Run Entry and Exit
# Long-Run Decisions
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