Chapter 9: Competitive Markets for Goods and Services Part 1 Consider the following goods and services. Which are the most likely to be produced in a perfectly competitive industry? Which are not? Ex

CHAPTER 9 Competitive Markets for Goods and Services START UP: LIFE ON THE FARM They produce a commodity that is essential to our daily lives, one for which the demand is virtually assured. And yet many—even as farm prices are reaching record highs—seem to live on the margin of failure. Thousands are driven out of business each year. We provide billions of dollars in aid for them, but still we hear of the hardships many of them face. They are our nation’s farmers.

What is it about farmers,and farming,that arouses our concern? Much of the answer probably lies in our sense that farming is fundamentalto the American way of life. Our country was built, in large part, by independent men and women who made their living from the soil. Many of us perceive their plight as our plight. But part of the an- swer lies in the fact that farmers do, in fact, face a diﬃcult economic environment.Most of them operate in highly competitivemarkets,markets that tolerate few mistakesand generallyoﬀer small rewards.Finally,perhaps our con- cern is stirred by our recognition that the farmers’ plight is our blessing. The low prices that make life diﬃcult for farmers are the low prices we enjoy as consumers of food. What keeps the returns to farming as low as they are? What holds many farmers in a situationin which they al- ways seem to be just getting by? In this chapter we shall see that prices just high enough to induce ﬁrms to contin- ue to produce are precisely what we would expect to prevail in a competitive market. We will examine a model of how competitivemarketswork. Not only does this model help to explain the situationfacing farmers,but it will also help us to understand the determinationof price and output in a wide range of markets. A farm is a ﬁrm, and our analysis of such a ﬁrm in a competitive market will give us the tools to analyze the choices of all ﬁrms operating in competitive markets. We will put the concepts of marginal cost, average variable cost, and average total cost to work to see how ﬁrms in a competitive market respond to market forces. We will see how ﬁrms adjust to changes in demand and supply in the short run and in the long run. In all of this, we will be examining how ﬁrms use the marginal decision rule.

The competitive model introduced in this chapter lies at one end of a spectrum of market models. At the other end is the monopoly model. It assumes a market in which there is no com- petition, a market in which only a single ﬁrm operates. Two models that fall between the ex- tremes of perfect competition and monopoly are monopolistic competition and oligopoly. Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ perfect competition Model of the market based on the assumption that a large number of ﬁrms produce identical goods consumed by a large number of buyers.

price takers Individuals or ﬁrms who must take the market price as given.

1. PERFECT COMPETITION: A MODEL LEARNING OBJECTIVES 1. Explain what economists mean by perfect competition.

2. Identify the basic assumptions of the model of perfect competition and explain why they imply price-taking behavior.

Virtually all ﬁrms in a market economy face competition from other ﬁrms. In this chapter, we will be working with a model of a highly idealized form of competition called “perfect” by economists. Perfect competition is a model of the market based on the assumption that a large number of ﬁrms produce identical goods consumed by a large number of buyers. The model of perfect competi- tion also assumes that it is easy for new ﬁrms to enter the market and for existing ones to leave. And ﬁnally, it assumes that buyers and sellers have complete information about market conditions. As we examine these assumptions in greater detail, we will see that they allow us to work with the model more easily. No market fully meets the conditions set out in these assumptions. As is always the case with models, our purpose is to understand the way things work, not to describe them. And the model of perfect competition will prove enormously useful in understanding the world of markets.

1.1 Assumptions of the Model The assumptions of the model of perfect competition, taken together, imply that individual buyers and sellers in a perfectly competitive market accept the market price as given. No one buyer or seller has any inﬂuence over that price. Individuals or ﬁrms who must take the market price as given are called price takers . A consumer or ﬁrm that takes the market price as given has no ability to inﬂuence that price. A price-taking ﬁrm or consumer is like an individual who is buying or selling stocks. He or she looks up the market price and buys or sells at that price. The price is determined by demand and sup- ply in the market—not by individual buyers or sellers. In a perfectly competitive market, each ﬁrm and each consumer is a price taker. A price-taking consumer assumes that he or she can purchase any quantity at the market price—without aﬀecting that price. Similarly, a price-taking ﬁrm assumes it can sell whatever quantity it wishes at the market price without aﬀecting the price. You are a price taker when you go into a store. You observe the prices listed and make a choice to buy or not. Your choice will not aﬀect that price. Should you sell a textbook back to your campus book- store at the end of a course, you are a price-taking seller. You are confronted by a market price and you decide whether to sell or not. Your decision will not aﬀect that price. To see how the assumptions of the model of perfect competition imply price-taking behavior, let us examine each of them in turn.

Identical Goods In a perfectly competitive market for a good or service, one unit of the good or service cannot be diﬀer- entiated from any other on any basis. A bushel of, say, hard winter wheat is an example. A bushel pro- duced by one farmer is identical to that produced by another. There are no brand preferences or con- sumer loyalties. The assumption that goods are identical is necessary if ﬁrms are to be price takers. If one farmer’s wheat were perceived as having special properties that distinguished it from other wheat, then that farmer would have some power over its price. By assuming that all goods and services produced by ﬁrms in a perfectly competitive market are identical, we establish a necessary condition for price-taking behavior. Economists sometimes say that the goods or services in a perfectly competitive market are homogeneous, meaning that they are all alike. There are no brand diﬀerences in a perfectly competitive market.

A Large Number of Buyers and Sellers How many buyers and sellers are in our market? The answer rests on our presumption of price-taking behavior. There are so many buyers and sellers that none of them has any inﬂuence on the market price regardless of how much any of them purchases or sells. A ﬁrm in a perfectly competitive market can re- act to prices, but cannot aﬀect the prices it pays for the factors of production or the prices it receives for its output.

226 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ Ease of Entry and Exit The assumption that it is easy for other ﬁrms to enter a perfectly competitive market implies an even greater degree of competition. Firms in a market must deal not only with the large number of compet- ing ﬁrms but also with the possibility that still more ﬁrms might enter the market.

Later in this chapter, we will see how ease of entry is related to the sustainability of economic proﬁts. If entry is easy, then the promise of high economic proﬁts will quickly attract new ﬁrms. If entry is diﬃcult, it won’t. The model of perfect competition assumes easy exit as well as easy entry. The assumption of easy exit strengthens the assumption of easy entry. Suppose a ﬁrm is considering entering a particular mar- ket. Entry may be easy, but suppose that getting out is diﬃcult. For example, suppliers of factors of pro- duction to ﬁrms in the industry might be happy to accommodate new ﬁrms but might require that they sign long-term contracts. Such contracts could make leaving the market diﬃcult and costly. If that were the case, a ﬁrm might be hesitant to enter in the ﬁrst place. Easy exit helps make entry easier.

Complete Information We assume that all sellers have complete information about prices, technology, and all other know- ledge relevant to the operation of the market. No one seller has any information about production methods that is not available to all other sellers. If one seller had an advantage over other sellers, per- haps special information about a lower-cost production method, then that seller could exert some con- trol over market price—the seller would no longer be a price taker. We assume also that buyers know the prices oﬀered by every seller. If buyers did not know about prices oﬀered by diﬀerent ﬁrms in the market, then a ﬁrm might be able to sell a good or service for a price other than the market price and thus could avoid being a price taker. The availability of information that is assumed in the model of perfect competition implies that in- formation can be obtained at low cost. If consumers and ﬁrms can obtain information at low cost, they are likely to do so. Information about the marketplace may come over the internet, over the airways in a television commercial, or over a cup of coﬀee with a friend. Whatever its source, we assume that its low cost ensures that consumers and ﬁrms have enough of it so that everyone buys or sells goods and services at market prices determined by the intersection of demand and supply curves. The assumptions of the perfectly competitive model ensure that each buyer or seller is a price taker. The market, not individual consumers or ﬁrms, determines price in the model of perfect compet- ition. No individual has enough power in a perfectly competitive market to have any impact on that price.

1.2 Perfect Competition and the Real World The assumptions of identical products, a large number of buyers, easy entry and exit, and perfect in- formation are strong assumptions. The notion that ﬁrms must sit back and let the market determine price seems to ﬂy in the face of what we know about most real ﬁrms, which is that ﬁrms customarily do set prices. Yet this is the basis for the model of demand and supply, the power of which you have already seen. When we use the model of demand and supply, we assume that market forces determine prices. In this model, buyers and sellers respond to the market price. They are price takers. The assumptions of the model of perfect competition underlie the assumption of price-taking behavior. Thus we are using the model of perfect competition whenever we apply the model of demand and supply. We can understand most markets by applying the model of demand and supply. Even though those markets do not fulﬁll all the assumptions of the model of perfect competition, the model allows us to understand some key features of these markets. Changes within your lifetime have made many markets more competitive. Falling costs of trans- portation, together with dramatic advances in telecommunications, have opened the possibility of en- tering markets to ﬁrms all over the world. A company in South Korea can compete in the market for steel in the United States. A furniture maker in New Mexico can compete in the market for furniture in Japan. A ﬁrm can enter the world market simply by creating a web page to advertise its products and to take orders. In the remaining sections of this chapter, we will learn more about the response of ﬁrms to market prices. We will see how ﬁrms respond, in the short run and in the long run, to changes in demand and to changes in production costs. In short, we will be examining the forces that constitute the supply side of the model of demand and supply. We will also see how competitive markets work to serve consumer interests and how competition acts to push economic proﬁts down, sometimes eliminating them entirely. When we have ﬁnished we will have a better understanding of the market conditions facing farmers and of the conditions that prevail in any competitive industry. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 227Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ KEY TAKEAWAYS  The central characteristic of the model of perfect competition is the fact that price is determined by the interaction of demand and supply; buyers and sellers are price takers.

 The model assumes: a large number of ﬁrms producing identical (homogeneous) goods or services, a large number of buyers and sellers, easy entry and exit in the industry, and complete information about prices in the market.

 The model of perfect competition underlies the model of demand and supply.

TRY IT!

Which of the following goods and services are likely produced in a perfectlycompetitiveindustry?Relate your answer to the assumptions of the model of perfect competition. 1. International express mail service 2. Corn 3. Athletic shoes Case in Point: Entering and Exiting the Burkha Industry © 2010 Jupiterimages Corporation Muhammed Ibrahim Islamadinwas driving a cab in Kabul, Afghanistan,when the Taliban took over the coun- try. He foresaw the repression that would follow and sensed an opportunity.

He sold his taxicab and set up a shop for sewing and selling burkhas,the garments required of all women un- der the Taliban’s rule. Mr. Islamadin had an easy task selling, as women caught outdoors with exposed skin were routinely beaten by the Taliban’s religious police. He told The Wall Street Journal, “This was very bad for them, but it was good for me.” Of course, Mr. Islamadin was not the only producer to get into the industry.Other Afghani merchants, as well as merchants from Pakistan and China, also jumped at the opportunity.

The entry of new ﬁrms exempliﬁes an important characteristicof perfect competition. Whenever there is an opportunityto earn economic proﬁts—evenan unexpected opportunity—newﬁrms will enter, provided that entry is easy. 228 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ The model of perfect competitionalso assumes that exit will be easy if and when a ﬁrm experienceseconomic losses. When the Taliban rulers were ousted by the United States and its allies in 2001, Mr. Islamadinexpected that the demand for burkhas would begin to fall. It did. The sales fell 50% almost immediately.Prices fell as well, generally by about 20%.

It was simple for Mr. Islamadinto leave the industry.He gave his remaining stock of burkhas to a brother who was producing them in the countryside where women continued to wear them. As for Mr. Islamadin,he has made plans to go into the glassware business. He expects the demand for glass teacups to be strong whatever happens in Afghanistan’s critical future.

Source: Andrew Higgins, “With Islamic Dress, Out Goes the Guy Who Sold Burkhas,” The Wall Street Journal, December 19, 2001, p. A1.

ANSWERS TO TRY IT! PROBLEMS 1. Not perfectly competitive–There are few sellers in this market (Fedex, UPS, and the United States Postal Services are the main ones in the United States) probably because of the diﬃculty of entry and exit. To provide these services requires many outlets and a large transportation ﬂeet, for example.

2. Perfectly competitive—There are many ﬁrms producing a largely homogeneous product and there is good information about prices. Entry and exit is also fairly easy as ﬁrms can switch among a variety of crops.

3. Not perfectly competitive—The main reason is that goods are not identical.

2. OUTPUT DETERMINATION IN THE SHORT RUN LEARNING OBJECTIVES 1. Show graphically how an individual ﬁrm in a perfectly competitive market can use total reven- ue and total cost curves or marginal revenue and marginal cost curves to determine the level of output that will maximize its economic proﬁt.

2. Explain when a ﬁrm will shut down in the short run and when it will operate even if it is incur- ring economic losses.

3. Derive the ﬁrm’s supply curve from the ﬁrm’s marginal cost curve and the industry supply curve from the supply curves of individual ﬁrms.

Our goal in this section is to see how a ﬁrm in a perfectly competitive market determines its output level in the short run—a planning period in which at least one factor of production is ﬁxed in quantity.

We shall see that the ﬁrm can maximize economic proﬁt by applying the marginal decision rule and in- creasing output up to the point at which the marginal beneﬁt of an additional unit of output is just equal to the marginal cost. This fact has an important implication: over a wide range of output, the ﬁrm’s marginal cost curve is its supply curve.

2.1 Price and Revenue Each ﬁrm in a perfectly competitive market is a price taker; the equilibrium price and industry output are determined by demand and supply. Figure 9.3 shows how demand and supply in the market for radishes, which we shall assume are produced under conditions of perfect competition, determine total output and price. The equilibrium price is $0.40 per pound; the equilibrium quantity is 10 million pounds per month. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 229Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ FIGURE 9.3 The Market for Radishes Price and output in a competitive market are determined by demand and supply. In the market for radishes, the equilibrium price is $0.40 per pound; 10 million pounds per month are produced and purchased at this price. total revenue A ﬁrm’s output multiplied by the price at which it sells that output.

Because it is a price taker, each ﬁrm in the radish industry assumes it can sell all the radishes it wants at a price of $0.40 per pound. No matter how many or how few radishes it produces, the ﬁrm expects to sell them all at the market price. The assumption that the ﬁrm expects to sell all the radishes it wants at the market price is crucial. If a ﬁrm did not expect to sell all of its radishes at the market price—if it had to lower the price to sell some quantities—the ﬁrm would not be a price taker. And price-taking behavior is central to the model of perfect competition. Radish growers—and perfectly competitive ﬁrms in general—have no reason to charge a price lower than the market price. Because buyers have complete information and because we assume each ﬁrm’s product is identical to that of its rivals, ﬁrms are un- able to charge a price higher than the market price. For perfectly competitive ﬁrms, the price is very much like the weather: they may complain about it, but in perfect competi- tion there is nothing any of them can do about it.

Total Revenue While a ﬁrm in a perfectly competitive market has no inﬂuence over its price, it does determine the output it will produce. In selecting the quantity of that output, one im- portant consideration is the revenue the ﬁrm will gain by producing it.

A ﬁrm’s total revenue is found by multiplying its output by the price at which it sells that output. For a perfectly competitive ﬁrm, total revenue (TR) is the market price (P) times the quantity the ﬁrm produces (Q), or EQUATION 9.1 TR=P× Q The relationship between market price and the ﬁrm’s total revenue curve is a crucial one. Panel (a) of Figure 9.4 shows total revenue curves for a radish grower at three possible market prices: $0.20, $0.40, and $0.60 per pound. Each total revenue curve is a linear, upward-sloping curve. At any price, the greater the quantity a perfectly competitive ﬁrm sells, the greater its total revenue. Notice that the greater the price, the steeper the total revenue curve is.

FIGURE 9.4 Total Revenue, Marginal Revenue, and Average Revenue Panel (a) shows diﬀerent total revenue curves for three possible market prices in perfect competition. A total revenue curve is a straight line coming out of the origin. The slope of a total revenue curve is MR;it equals the market price ( P) and ARin perfect competition. Marginal revenue and average revenue are thus a single horizontal line at the market price, as shown in Panel (b). There is a diﬀerent marginal revenue curve for each price. 230 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ marginal revenue The increase in total revenue from a one-unit increase in quantity.

average revenue Total revenue divided by quantity.

Price, Marginal Revenue, and Average Revenue The slope of a total revenue curve is particularly important. It equals the change in the vertical axis (total revenue) divided by the change in the horizontal axis (quantity) between any two points. The slope measures the rate at which total revenue increases as output increases. We can think of it as the increase in total revenue associated with a 1-unit increase in output. The increase in total revenue from a 1-unit increase in quantity is marginal revenue. Thus marginal revenue (MR) equals the slope of the total revenue curve. How much additional revenue does a radish producer gain from selling one more pound of radishes? The answer, of course, is the market price for 1 pound. Marginal revenue equals the market price. Because the market price is not aﬀected by the output choice of a single ﬁrm, the marginal reven- ue the ﬁrm gains by producing one more unit is always the market price. The marginal revenue curve shows the relationship between marginal revenue and the quantity a ﬁrm produces. For a perfectly competitive ﬁrm, the marginal revenue curve is a horizontal line at the market price. If the market price of a pound of radishes is $0.40, then the marginal revenue is $0.40. Marginal revenue curves for prices of $0.20, $0.40, and $0.60 are given in Panel (b) of Figure 9.4. In perfect competition, a ﬁrm’s marginal revenue curve is a horizontal line at the market price.

Price also equals average revenue , which is total revenue divided by quantity. Equation 9.1 gives total revenue, TR. To obtain average revenue (AR), we divide total revenue by quantity, Q. Because total revenue equals price (P) times quantity (Q), dividing by quantity leaves us with price.

EQUATION 9.2 AR=TR Q =P × Q Q = P The marginal revenue curve is a horizontal line at the market price, and average revenue equals the market price. The average and marginal revenue curves are given by the same horizontal line. This is consistent with what we have learned about the relationship between marginal and average values.

When the marginal value exceeds the average value, the average value will be rising. When the margin- al value is less than the average value, the average value will be falling. What happens when the average and marginal values do not change, as in the horizontal curves of Panel (b) of Figure 9.4? The marginal value must equal the average value; the two curves coincide.

Marginal Revenue, Price, and Demand for the Perfectly Competitive Firm We have seen that a perfectly competitive ﬁrm’s marginal revenue curve is simply a horizontal line at the market price and that this same line is also the ﬁrm’s average revenue curve. For the perfectly com- petitive ﬁrm, MR =P= AR .

The marginal revenue curve has another meaning as well. It is the de- mand curve facing a perfectly competitive ﬁrm. Consider the case of a single radish producer, Tony Gortari. We assume that the radish market is perfectly competitive; Mr. Gortari runs a perfectly competitive ﬁrm. Suppose the market price of radishes is $0.40 per pound. How many pounds of radishes can Mr. Gortari sell at this price? The an- swer comes from our assumption that he is a price taker: He can sell anyquantity he wishes at this price. How many pounds of radishes will he sell if he charges a price that exceeds the market price?

None. His radishes are identical to those of every other ﬁrm in the market, and everyone in the market has complete information. That means the demand curve facing Mr. Gortari is a horizontal line at the market price as illustrated in Figure 9.5. Notice that the curve is labeled dto distinguish it from the market demand curve, D, in Figure 9.3. The horizontal line in Figure 9.5 is also Mr. Gortari’s marginal revenue curve, MR, and his average revenue curve, AR. It is also the market price,P.

Of course, Mr. Gortari could charge a price below the market price, but why would he? We assume he can sell all the radishes he wants at the market price; there would be no reason to charge a lower price. Mr. Gortari faces a demand curve that is a horizontal line at the market price. In our subsequent analysis, we shall refer to the horizontal line at the market price simply as marginal revenue. We should remember, however, that this same line gives us the market price, average revenue, and the demand curve facing the ﬁrm. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 231Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ FIGURE 9.5 Price, Marginal Revenue, and Demand A perfectly competitive ﬁrm faces a horizontal demand curve at the market price. Here, radish grower Tony Gortari faces demand curve dat the market price of $0.40 per pound. He could sell q 1 or q 2—or any other quantity—at a price of $0.40 per pound. More generally, we can say that anyperfectly competitive ﬁrm faces a horizontal demand curve at the market price. We saw an example of a horizontal demand curve in the chapter on elasticity. Such a curve is perfectly elastic, meaning that any quantity is demanded at a given price.

2.2 Economic Profit in the Short Run A ﬁrm’s economic proﬁt is the diﬀerence between total revenue and total cost. Recall that total cost is the opportunity cost of producing a certain good or service. When we speak of economic proﬁt we are speaking of a ﬁrm’s total revenue less the total oppor- tunity cost of its operations. As we learned, a ﬁrm’s total cost curve in the short run intersects the vertical axis at some positive value equal to the ﬁrm’s total ﬁxed costs. Total cost then rises at a de- creasing rate over the range of increasing marginal returns to the ﬁrm’s variable factors.

It rises at an increasing rate over the range of diminishing marginal returns. Figure 9.6 shows the total cost curve for Mr. Gortari, as well as the total revenue curve for a price of $0.40 per pound. Suppose that his total ﬁxed cost is $400 per month. For any given level of output, Mr. Gortari’s economic proﬁt is the vertical distance between the total revenue curve and the total cost curve at that level.

FIGURE 9.6 Total Revenue, Total Cost, and Economic Profit Economic proﬁt is the vertical distance between the total revenue and total cost curves (revenue minus costs). Here, the maximum proﬁt attainable by Tony Gortari for his radish production is $938 per month at an output of 6,700 pounds.

Let us examine the total revenue and total cost curves in Figure 9.6 more carefully. At zero units of out- put, Mr. Gortari’s total cost is $400 (his total ﬁxed cost); total revenue is zero. Total cost continues to exceed total revenue up to an output of 1,500 pounds per month, at which point the two curves inter- sect. At this point, economic proﬁt equals zero. As Mr. Gortari expands output above 1,500 pounds per month, total revenue becomes greater than total cost. We see that at a quantity of 1,500 pounds per month, the total revenue curve is steeper than the total cost curve. Because revenues are rising faster than costs, proﬁts rise with increased output. As long as the total revenue curve is steeper than the total cost curve, proﬁt increases as the ﬁrm increases its output. 232 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ economic proﬁt per unit The diﬀerence between price and average total cost.

The total revenue curve’s slope does not change as the ﬁrm increases its output. But the total cost curve becomes steeper and steeper as diminishing marginal returns set in. Eventually, the total cost and total revenue curves will have the same slope. That happens in Figure 9.6 at an output of 6,700 pounds of radishes per month. Notice that a line drawn tangent to the total cost curve at that quantity has the same slope as the total revenue curve. As output increases beyond 6,700 pounds, the total cost curve continues to become steeper. It be- comes steeper than the total revenue curve, and proﬁts fall as costs rise faster than revenues. At an out- put slightly above 8,000 pounds per month, the total revenue and cost curves intersect again, and eco- nomic proﬁt equals zero. Mr. Gortari achieves the greatest proﬁt possible by producing 6,700 pounds of radishes per month, the quantity at which the total cost and total revenue curves have the same slope. More generally, we can conclude that a perfectly competitive ﬁrm maximizes economic proﬁt at the output level at which the total revenue curve and the total cost curve have the same slope.

2.3 Applying the Marginal Decision Rule The slope of the total revenue curve is marginal revenue; the slope of the total cost curve is marginal cost. Economic proﬁt, the diﬀerence between total revenue and total cost, is maximized where margin- al revenue equals marginal cost. This is consistent with the marginal decision rule, which holds that a proﬁt-maximizing ﬁrm should increase output until the marginal beneﬁt of an additional unit equals the marginal cost. The marginal beneﬁt of selling an additional unit is measured as marginal revenue.

Finding the output at which marginal revenue equals marginal cost is thus an application of our mar- ginal decision rule. Figure 9.7 shows how a ﬁrm can use the marginal decision rule to determine its proﬁt-maximizing output. Panel (a) shows the market for radishes; the market demand curve (D), and supply curve (S) that we had in Figure 9.3; the market price is $0.40 per pound. In Panel (b), the MRcurve is given by a horizontal line at the market price. The ﬁrm’s marginal cost curve (MC) intersects the marginal reven- ue curve at the point where proﬁt is maximized. Mr. Gortari maximizes proﬁts by producing 6,700 pounds of radishes per month. That is, of course, the result we obtained in Figure 9.6, where we saw that the ﬁrm’s total revenue and total cost curves diﬀer by the greatest amount at the point at which the slopes of the curves, which equal marginal revenue and marginal cost, respectively, are equal.

FIGURE 9.7 Applying the Marginal Decision Rule The market price is determined by the intersection of demand and supply. As always, the ﬁrm maximizes proﬁt by applying the marginal decision rule. It takes the market price, $0.40 per pound, as given and selects an output at which MRequals MC. Economic proﬁt per unit is the diﬀerence between ATCand price (here, $0.14 per pound); economic proﬁt is proﬁt per unit times the quantity produced ($0.14 × 6,700 = $938). CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 233Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ economic loss The amount by which a ﬁrm’s total cost exceeds its total revenue.

We can use the graph in Figure 9.7 to compute Mr. Gortari’s economic proﬁt.

Economic proﬁt per unit is the diﬀerence between price and average total cost. At the proﬁt-maximizing output of 6,700 pounds of radishes per month, average total cost (ATC) is $0.26 per pound, as shown in Panel (b).

Price is $0.40 per pound, so economic proﬁt per unit is $0.14. Economic proﬁt is found by multiplying economic proﬁt per unit by the number of units produced; the ﬁrm’s economic proﬁt is thus $938 ($0.14 × 6,700). It is shown graphically by the area of the shaded rectangle in Panel (b); this area equals the vertical distance between marginal revenue (MR) and average total cost (ATC) at an output of 6,700 pounds of radishes times the number of pounds of radishes produced, 6,700, in Figure 9.7.

Heads Up!

Look carefully at the rectangle that shows economic proﬁt in Panel (b) of Figure 9.7. It is found by taking the proﬁt-maximizingquantity, 6,700 pounds, then reading up to the ATCcurve and the ﬁrm’s demand curve at the market price. Economic proﬁt per unit equals price minus average total cost ( P− ATC ).

The ﬁrm’s economic proﬁt equals economic proﬁt per unit times the quantityproduced. It is found by extend- ing horizontal lines from the ATCand MR curve to the vertical axis and taking the area of the rectangle formed.

There is no reason for the proﬁt-maximizingquantity to correspond to the lowest point on the ATCcurve; it does not in this case. Students sometimes make the mistake of calculating economic proﬁt as the diﬀerence between the price and the lowest point on the ATCcurve. That gives us the maximum economic proﬁt per unit, but we assume that ﬁrms maximize economic proﬁt, not economic proﬁt per unit. The ﬁrm’s economic proﬁt equals economic proﬁt per unit times quantity.The quantity that maximizeseconomic proﬁt is determ- ined by the intersection of ATCand MR.

2.4 Economic Losses in the Short Run In the short run, a ﬁrm has one or more inputs whose quantities are ﬁxed. That means that in the short run the ﬁrm cannot leave its industry. Even if it cannot cover allof its costs, including both its variable and ﬁxed costs, going entirely out of business is not an option in the short run. The ﬁrm may close its doors, but it must continue to pay its ﬁxed costs. It is forced to accept an economic loss, the amount by which its total cost exceeds its total revenue. Suppose, for example, that a manufacturer has signed a 1-year lease on some equipment. It must make payments for this equipment during the term of its lease, whether it produces anything or not.

During the period of the lease, the payments represent a ﬁxed cost for the ﬁrm. A ﬁrm that is experiencing economic losses—whose economic proﬁts have become negative—in the short run may either continue to produce or shut down its operations, reducing its output to zero.

It will choose the option that minimizes its losses. The crucial test of whether to operate or shut down lies in the relationship between price and average variable cost.

Producing to Minimize Economic Loss Suppose the demand for radishes falls to D 2, as shown in Panel (a) of Figure 9.8. The market price for radishes plunges to $0.18 per pound, which is below average total cost. Consequently Mr. Gortari ex- periences negative economic proﬁts—a loss. Although the new market price falls short of average total cost, it still exceeds average variable cost, shown in Panel (b) as AVC. Therefore, Mr. Gortari should continue to produce an output at which marginal cost equals marginal revenue. These curves (labeled MC and MR 2) intersect in Panel (b) at an output of 4,444 pounds of radishes per month.

234 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ shutdown point The minimum level of average variable cost, which occurs at the intersection of the marginal cost curve and the average variable cost curve.

FIGURE 9.8 Suffering Economic Losses in the Short Run Tony Gortari experiences a loss when price drops below ATC, as it does in Panel (b) as a result of a reduction in demand. If price is above AVC, however, he can minimize his losses by producing where MCequals MR 2. Here, that occurs at an output of 4,444 pounds of radishes per month. The price is $0.18 per pound, and average total cost is $0.23 per pound. He loses $0.05 per pound, or $222.20 per month.

When producing 4,444 pounds of radishes per month, Mr. Gortari faces an average total cost of $0.23 per pound. At a price of $0.18 per pound, he loses a nickel on each pound produced. Total economic losses at an output of 4,444 pounds per month are thus $222.20 per month (=4,444×$0.05). No producer likes a loss (that is, negative economic proﬁt), but the loss solution shown in Figure 9.8 is the best Mr. Gortari can attain. Any level of production other than the one at which marginal cost equals marginal revenue would produce even greater losses. Suppose Mr. Gortari were to shut down and produce no radishes. Ceasing production would re- duce variable costs to zero, but he would still face ﬁxed costs of $400 per month (recall that $400 was the vertical intercept of the total cost curve in Figure 9.6). By shutting down, Mr. Gortari would lose $400 per month. By continuing to produce, he loses only $222.20. Mr. Gortari is better oﬀ producing where marginal cost equals marginal revenue because at that output price exceeds average variable cost. Average variable cost is $0.14 per pound, so by continuing to produce he covers his variable costs, with $0.04 per pound left over to apply to ﬁxed costs. Whenever price is greater than average variable cost, the ﬁrm maximizes economic proﬁt (or minimizes economic loss) by producing the output level at which marginal revenue and marginal cost curves intersect.

Shutting Down to Minimize Economic Loss Suppose price drops below a ﬁrm’s average variable cost. Now the best strategy for the ﬁrm is to shut down, reducing its output to zero. The minimum level of average variable cost, which occurs at the in- tersection of the marginal cost curve and the average variable cost curve, is called the shutdown point . Any price below the minimum value of average variable cost will cause the ﬁrm to shut down. If the ﬁrm were to continue producing, not only would it lose its ﬁxed costs, but it would also face an ad- ditional loss by not covering its variable costs. Figure 9.9 shows a case where the price of radishes drops to $0.10 per pound. Price is less than av- erage variable cost, so Mr. Gortari not only would lose his ﬁxed cost but would also incur additional losses by producing. Suppose, for example, he decided to operate where marginal cost equals marginal revenue, producing 1,700 pounds of radishes per month. Average variable cost equals $0.14 per pound, so he would lose $0.04 on each pound he produces ($68) plus his ﬁxed cost of $400 per month. He would lose $468 per month. If he shut down, he would lose only his ﬁxed cost. Because the price of $0.10 falls below his average variable cost, his best course would be to shut down. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 235Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ FIGURE 9.9 Shutting Down The market price of radishes drops to $0.10 per pound, so MR 3is below Mr. Gortari’s AVC. Thus he would suﬀer a greater loss by continuing to operate than by shutting down. Whenever price falls below average variable cost, the ﬁrm will shut down, reducing its production to zero. Shutting down is not the same thing as going out of business. A ﬁrm shuts down by closing its doors; it can reopen them whenever it expects to cover its variable costs.

We can even think of a ﬁrm’s decision to close at the end of the day as a kind of shut- down point; the ﬁrm makes this choice because it does not anticipate that it will be able to cover its variable cost overnight. It expects to cover those costs the next morning when it reopens its doors.

2.5 Marginal Cost and Supply In the model of perfect competition, we assume that a ﬁrm determines its output by ﬁnding the point where the marginal revenue and marginal cost curves intersect.

Provided that price exceeds average variable cost, the ﬁrm produces the quantity de- termined by the intersection of the two curves. A supply curve tells us the quantity that will be produced at each price, and that is what the ﬁrm’s marginal cost curve tells us. The ﬁrm’s supply curve in the short run is its marginal cost curve for prices above the average variable cost. At prices below aver- age variable cost, the ﬁrm’s output drops to zero. Panel (a) of Figure 9.10 shows the average variable cost and marginal cost curves for a hypothetical astrologer, Madame LaFarge, who is in the business of providing as- trological consultations over the telephone. We shall assume that this industry is per- fectly competitive. At any price below $10 per call, Madame LaFarge would shut down.

If the price is $10 or greater, however, she produces an output at which price equals marginal cost. The marginal cost curve is thus her supply curve at all prices greater than $10.

FIGURE 9.10 Marginal Cost and Supply The supply curve for a ﬁrm is that portion of its MCcurve that lies above the AVCcurve, shown in Panel (a). To obtain the short-run supply curve for the industry, we add the outputs of each ﬁrm at each price. The industry supply curve is given in Panel (b).

Now suppose that the astrological forecast industry consists of Madame LaFarge and thousands of oth- er ﬁrms similar to hers. The market supply curve is found by adding the outputs of each ﬁrm at each price, as shown in Panel (b) of Figure 9.10. At a price of $10 per call, for example, Madame LaFarge supplies 14 calls per day. Adding the quantities supplied by all the other ﬁrms in the market, suppose we get a quantity supplied of 280,000. Notice that the market supply curve we have drawn is linear; throughout the book we have made the assumption that market demand and supply curves are linear in order to simplify our analysis. Looking at Figure 9.10, we see that proﬁt-maximizing choices by ﬁrms in a perfectly competitive market will generate a market supply curve that reﬂects marginal cost. Provided there are no external 236 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ beneﬁts or costs in producing a good or service, a perfectly competitive market satisﬁes the eﬃciency condition.

KEY TAKEAWAYS  Price in a perfectly competitive industry is determined by the interaction of demand and supply.

 In a perfectly competitive industry, a ﬁrm’s total revenue curve is a straight, upward-sloping line whose slope is the market price. Economic proﬁt is maximized at the output level at which the slopes of the total revenue and total cost curves are equal, provided that the ﬁrm is covering its variable cost.

 To use the marginal decision rule in proﬁt maximization, the ﬁrm produces the output at which marginal cost equals marginal revenue. Economic proﬁt per unit is price minus average total cost; total economic proﬁt equals economic proﬁt per unit times quantity.

 If price falls below average total cost, but remains above average variable cost, the ﬁrm will continue to operate in the short run, producing the quantity where MR=MC doing so minimizes its losses.

 If price falls below average variable cost, the ﬁrm will shut down in the short run, reducing output to zero.

The lowest point on the average variable cost curve is called the shutdown point.

 The ﬁrm’s supply curve in the short run is its marginal cost curve for prices greater than the minimum average variable cost.

TRY IT!

Assume that Acme Clothing, the ﬁrm introducedin the chapter on productionand cost, produces jackets in a perfectly competitive market. Suppose the demand and supply curves for jackets intersect at a price of $81.

Now, using the marginal cost and average total cost curves for Acme shown here:

Estimate Acme’s proﬁt-maximizing output per day (assume the ﬁrm selects a whole number). What are Acme’s economic proﬁts per day? CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 237Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ Case in Point: Not Out of Business ’Til They Fall from the Sky © 2010 Jupiterimages Corporation The 66 satelliteswere poised to start falling from the sky. The hope was that the pieces would burn to bits on their way down through the atmosphere,but there was the chance that a building or a person would take a direct hit.

The satellites were the primary communication devices of Iridium’s satellite phone system. Begun in 1998 as the ﬁrst truly global satellite system for mobile phones—providing communications across deserts, in the middle of oceans, and at the poles—Iridiumexpected ﬁve million subscribers to pay $7 a minute to talk on $3,000 handsets.In the climate of the late 1990s, users opted for cheaper, though less secure and less compre- hensive, cell phones. By the end of the decade, Iridium had declared bankruptcy,shut down operations,and was just waiting for the satellites to start plunging from their orbits around 2007.

The only oﬀer for Iridium’s$5 billion system came from an ex-CEO of a nuclear reactor business, Dan Colussy, and it was for a measly $25 million. “It’s like picking up a $150,000 Porsche 911 for $750,” wrote USA Todayre- porter, Kevin Maney.

The purchase turned into a bonanza. In the wake of September 11, 2001, and then the wars in Afghanistan and Iraq, demand for secure communications in remote locations skyrocketed.New customers included the U.S. and British militaries,as well as reporters in Iraq, who, when traveling with the military have been barred from using less secure systems that are easier to track. The nonproﬁt organizationOperation Call Home has bought time to allow members of the 81 st Armor Brigade of the WashingtonNational Guard to communicate with their families at home. Airlines and shipping lines have also signed up.

As the new Iridium became unburdened from the debt of the old one and technology improved, the lower ﬁxed and variable costs have contributed to Iridium’s revival, but clearly a critical element in the turnaround has been increaseddemand. The launching of an additionalseven spare satellitesand other tinkeringhave ex- tended the life of the system to at least 2014. The ﬁrm was temporarilyshut down but, with its new owners and new demand for its services, has come roaring back. 238 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ Why did Colussy buy Iridium? A top executive in the new ﬁrm said that Colussy just found the eliminationof the satellitesa terriblewaste. Perhaps he had some niche uses in mind, as even before September11, 2001, he had begun to enroll some new customers, such as the Colombian national police, who no doubt found the system useful in the ﬁghting drug lords. But it was in the aftermathof 9/11 that its subscriberlist really began to grow and its re-opening was deemed a stroke of genius. Today Iridium’s customers include ships at sea (which account for about half of its business),airlines,military uses, and a variety of commercial and humanit- arian applications.

Sources: Kevin Maney, “RememberThose ‘Iridium’sGoing to Fail’ Jokes? Prepare to Eat Your Hat,” USA Today, April 9, 2003: p. 3B. Michael Mecham, “HandheldComeback: A ResurrectedIridium Counts Aviation,AntiterrorismAmong Its Growth Fields,”Aviation Week and Space Technology, 161: 9 (September 6, 2004): p. 58. Iridium’s webpage can be found at Iridium.com.

ANSWER TO TRY IT! PROBLEM At a price of $81, Acme’s marginal revenue curve is a horizontal line at $81. The ﬁrm produces the output at which marginal cost equals marginal revenue; the curves intersect at a quantity of 9 jackets per day. Acme’s average total cost at this level of output equals $67, for an economic proﬁt per jacket of $14. Acme’s economic proﬁt per day equals about $126.

3. PERFECT COMPETITION IN THE LONG RUN LEARNING OBJECTIVES 1. Distinguish between economic proﬁt and accounting proﬁt.

2. Explain why in long-run equilibrium in a perfectly competitive industry ﬁrms will earn zero eco- nomic proﬁt.

3. Describe the three possible eﬀects on the costs of the factors of production that expansion or contraction of a perfectly competitive industry may have and illustrate the resulting long-run industry supply curve in each case.

4. Explain why under perfection competition output prices will change by less than the change in production cost in the short run, but by the full amount of the change in production cost in the long run.

5. Explain the eﬀect of a change in ﬁxed cost on price and output in the short run and in the long run under perfect competition.

In the long run, a ﬁrm is free to adjust all of its inputs. New ﬁrms can enter any market; existing ﬁrms can leave their markets. We shall see in this section that the model of perfect competition predicts that, at a long-run equilibrium, production takes place at the lowest possible cost per unit and that all eco- nomic proﬁts and losses are eliminated. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 239Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ explicit costs Charges that must be paid for factors of production such as labor and capital.

accounting proﬁt Proﬁt computed using only explicit costs.

implicit cost A cost that is included in the economic concept of opportunity cost but that is not an explicit cost.

3.1 Economic Profit and Economic Loss Economic proﬁts and losses play a crucial role in the model of perfect competition. The existence of economic proﬁts in a particular industry attracts new ﬁrms to the industry in the long run. As new ﬁrms enter, the supply curve shifts to the right, price falls, and proﬁts fall. Firms continue to enter the industry until economic proﬁts fall to zero. If ﬁrms in an industry are experiencing economic losses, some will leave. The supply curve shifts to the left, increasing price and reducing losses. Firms continue to leave until the remaining ﬁrms are no longer suﬀering losses—until economic proﬁts are zero.

Before examining the mechanism through which entry and exit eliminate economic proﬁts and losses, we shall examine an important key to understanding it: the diﬀerence between the accounting and economic concepts of proﬁt and loss.

Economic Versus Accounting Concepts of Profit and Loss Economic proﬁt equals total revenue minus total cost, where cost is measured in the economic sense as opportunity cost. An economic loss (negative economic proﬁt) is incurred if total cost exceeds total revenue.

Accountants include only explicit costs in their computation of total cost. Explicit costsinclude charges that must be paid for factors of production such as labor and capital, together with an estimate of depreciation. Proﬁt computed using only explicit costs is called accounting proﬁt. It is the meas- ure of proﬁt ﬁrms typically report; ﬁrms pay taxes on their accounting proﬁts, and a corporation re- porting its proﬁt for a particular period reports its accounting proﬁts. To compute his accounting proﬁts, Mr. Gortari, the radish farmer, would subtract explicit costs, such as charges for labor, equip- ment, and other supplies, from the revenue he receives.

Economists recognize costs in addition to the explicit costs listed by accountants. If Mr. Gortari were not growing radishes, he could be doing something else with the land and with his own eﬀorts.

Suppose the most valuable alternative use of his land would be to produce carrots, from which Mr.

Gortari could earn $250 per month in accounting proﬁts. The income he forgoes by not producing car- rots is an opportunity cost of producing radishes. This cost is not explicit; the return Mr. Gortari could get from producing carrots will not appear on a conventional accounting statement of his accounting proﬁt. A cost that is included in the economic concept of opportunity cost, but that is not an explicit cost, is called an implicit cost.

The Long Run and Zero Economic Profits Given our deﬁnition of economic proﬁts, we can easily see why, in perfect competition, they must al- ways equal zero in the long run. Suppose there are two industries in the economy, and that ﬁrms in In- dustry A are earning economic proﬁts. By deﬁnition, ﬁrms in Industry A are earning a return greater than the return available in Industry B. That means that ﬁrms in Industry B are earning less than they could in Industry A. Firms in Industry B are experiencing economic losses. Given easy entry and exit, some ﬁrms in Industry B will leave it and enter Industry A to earn the greater proﬁts available there. As they do so, the supply curve in Industry B will shift to the left, in- creasing prices and proﬁts there. As former Industry B ﬁrms enter Industry A, the supply curve in In- dustry A will shift to the right, lowering proﬁts in A. The process of ﬁrms leaving Industry B and enter- ing A will continue until ﬁrms in both industries are earning zero economic proﬁt. That suggests an important long-run result: Economic proﬁts in a system of perfectly competitive markets will, in the long run, be driven to zero in all industries.

Eliminating Economic Profit: The Role of Entry The process through which entry will eliminate economic proﬁts in the long run is illustrated in Figure 9.14, which is based on the situation presented in Figure 9.7. The price of radishes is $0.40 per pound.

Mr. Gortari’s average total cost at an output of 6,700 pounds of radishes per month is $0.26 per pound.

Proﬁt per unit is $0.14 ($0.40 − $0.26). Mr. Gortari thus earns a proﬁt of $938 per month (=$0.14 × 6,700).

240 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ FIGURE 9.14 Eliminating Economic Profits in the Long Run If ﬁrms in an industry are making an economic proﬁt, entry will occur in the long run. In Panel (b), a single ﬁrm’s proﬁt is shown by the shaded area. Entry continues until ﬁrms in the industry are operating at the lowest point on their respective average total cost curves, and economic proﬁts fall to zero.

Proﬁts in the radish industry attract entry in the long run. Panel (a) of Figure 9.14 shows that as ﬁrms enter, the supply curve shifts to the right and the price of radishes falls. New ﬁrms enter as long as there are economic proﬁts to be made—as long as price exceeds ATCin Panel (b). As price falls, marginal revenue falls to MR 2and the ﬁrm reduces the quantity it supplies, moving along the marginal cost (MC) curve to the lowest point on the ATCcurve, at $0.22 per pound and an output of 5,000 pounds per month. Although the output of individual ﬁrms falls in response to falling prices, there are now more ﬁrms, so industry output rises to 13 million pounds per month in Panel (a).

Eliminating Losses: The Role of Exit Just as entry eliminates economic proﬁts in the long run, exit eliminates economic losses. In Figure 9.15, Panel (a) shows the case of an industry in which the market price P 1 is below ATC. In Panel (b), at price P 1 a single ﬁrm produces a quantity q 1, assuming it is at least covering its average variable cost.

The ﬁrm’s losses are shown by the shaded rectangle bounded by its average total cost C 1 and price P 1 and by output q 1.

Because ﬁrms in the industry are losing money, some will exit. The supply curve in Panel (a) shifts to the left, and it continues shifting as long as ﬁrms are suﬀering losses. Eventually the supply curve shifts all the way to S 2, price rises to P 2, and economic proﬁts return to zero. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 241Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ constant-cost industry Industry in which expansion does not aﬀect the prices of factors of production.

increasing-cost industry Industry in which the entry of new ﬁrms bids up the prices of factors of production and thus increases production costs.

decreasing-cost industry Industry in which production costs fall in the long run as ﬁrms enter. FIGURE 9.15 Eliminating Economic Losses in the Long Run Panel (b) shows that at the initial price P 1, ﬁrms in the industry cannot cover average total cost ( MR 1is below ATC).

That induces some ﬁrms to leave the industry, shifting the supply curve in Panel (a) to S 2, reducing industry output to Q 2and raising price to P 2. At that price ( MR 2), ﬁrms earn zero economic proﬁt, and exit from the industry ceases.

Panel (b) shows that the ﬁrm increases output from q 1 to q 2; total output in the market falls in Panel (a) because there are fewer ﬁrms. Notice that in Panel (a) quantity is designated by uppercase Q, while in Panel (b) quantity is designated by lowercase q. This convention is used throughout the text to distinguish between the quantity supplied in the market ( Q) and the quantity supplied by a typical ﬁrm ( q).

Entry, Exit, and Production Costs In our examination of entry and exit in response to economic proﬁt or loss in a perfectly competitive industry, we assumed that the ATCcurve of a single ﬁrm does not shift as new ﬁrms enter or existing ﬁrms leave the industry. That is the case when expansion or contraction does not aﬀect prices for the factors of production used by ﬁrms in the industry. When expansion of the industry does not aﬀect the prices of factors of production, it is a constant-cost industry. In some cases, however, the entry of new ﬁrms may aﬀect input prices. As new ﬁrms enter, they add to the demand for the factors of production used by the industry. If the industry is a signiﬁcant user of those factors, the increase in demand could push up the market price of factors of production for all ﬁrms in the industry. If that occurs, then entry into an industry will boost average costs at the same time as it puts downward pressure on price. Long-run equilibrium will still occur at a zero level of economic proﬁt and with ﬁrms operating on the lowest point on the ATC curve, but that cost curve will be somewhat higher than before entry occurred. Suppose, for ex- ample, that an increase in demand for new houses drives prices higher and induces entry. That will in- crease the demand for workers in the construction industry and is likely to result in higher wages in the industry, driving up costs.

An industry in which the entry of new ﬁrms bids up the prices of factors of production and thus increases production costs is called an increasing-cost industry. As such an industry expands in the long run, its price will rise.

Some industries may experience reductions in input prices as they expand with the entry of new ﬁrms. That may occur because ﬁrms supplying the industry experience economies of scale as they in- crease production, thus driving input prices down. Expansion may also induce technological changes that lower input costs. That is clearly the case of the computer industry, which has enjoyed falling input costs as it has expanded. An industry in which production costs fall as ﬁrms enter in the long run is a decreasing-cost industry .

Just as industries may expand with the entry of new ﬁrms, they may contract with the exit of exist- ing ﬁrms. In a constant-cost industry, exit will not aﬀect the input prices of remaining ﬁrms. In an increasing-cost industry, exit will reduce the input prices of remaining ﬁrms. And, in a decreasing-cost industry, input prices may rise with the exit of existing ﬁrms. 242 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ long-run industry supply curve A curve that relates the price of a good or service to the quantity produced after all long-run adjustments to a price change have been completed.

The behavior of production costs as ﬁrms in an industry expand or reduce their output has im- portant implications for the long-run industry supply curve , a curve that relates the price of a good or service to the quantity produced after all long-run adjustments to a price change have been com- pleted. Every point on a long-run supply curve therefore shows a price and quantity supplied at which ﬁrms in the industry are earning zero economic proﬁt. Unlike the short-run market supply curve, the long-run industry supply curve does not hold factor costs and the number of ﬁrms unchanged. Figure 9.16 shows three long-run industry supply curves. In Panel (a), S CC is a long-run supply curve for a constant-cost industry. It is horizontal. Neither expansion nor contraction by itself aﬀects market price. In Panel (b), S IC is a long-run supply curve for an increasing-cost industry. It rises as the industry expands. In Panel (c), S DC is a long-run supply curve for a decreasing-cost industry. Its down- ward slope suggests a falling price as the industry expands.

FIGURE 9.16 Long-Run Supply Curves in Perfect Competition The long-run supply curve for a constant-cost, perfectly competitive industry is a horizontal line, S CC , shown in Panel (a). The long-run curve for an increasing-cost industry is an upward-sloping curve, S IC , as in Panel (b). The downward-sloping long-run supply curve, S DC , for a decreasing cost industry is given in Panel (c).

3.2 Changes in Demand and in Production Cost The primary application of the model of perfect competition is in predicting how ﬁrms will respond to changes in demand and in production costs. To see how ﬁrms respond to a particular change, we de- termine how the change aﬀects demand or cost conditions and then see how the proﬁt-maximizing solution is aﬀected in the short run and in the long run. Having determined how the proﬁt-maximizing ﬁrms of the model would respond, we can then predict ﬁrms’ responses to similar changes in the real world. In the examples that follow, we shall assume, for simplicity, that entry or exit do not aﬀect the in- put prices facing ﬁrms in the industry. That is, we assume a constant-cost industry with a horizontal long-run industry supply curve similar to S CC in Figure 9.16. We shall assume that ﬁrms are covering their average variable costs, so we can ignore the possibility of shutting down.

Changes in Demand Changes in demand can occur for a variety of reasons. There may be a change in preferences, incomes, the price of a related good, population, or consumer expectations. A change in demand causes a change in the market price, thus shifting the marginal revenue curves of ﬁrms in the industry. Let us consider the impact of a change in demand for oats. Suppose new evidence suggests that eating oats not only helps to prevent heart disease, but also prevents baldness in males. This will, of course, increase the demand for oats. To assess the impact of this change, we assume that the industry is perfectly competitive and that it is initially in long-run equilibrium at a price of $1.70 per bushel.

Economic proﬁts equal zero. The initial situation is depicted in Figure 9.17. Panel (a) shows that at a price of $1.70, industry output is Q 1(point A), while Panel (b) shows that the market price constitutes the marginal revenue, MR 1, facing a single ﬁrm in the industry. The ﬁrm responds to that price by ﬁnding the output level at which the MCand MR 1curves intersect. That implies a level of output q 1 at point A′ .

The new medical evidence causes demand to increase to D 2in Panel (a). That increases the market price to $2.30 (point B), so the marginal revenue curve for a single ﬁrm rises to MR 2in Panel (b). The ﬁrm responds by increasing its output to q 2 in the short run (point B′). Notice that the ﬁrm’s average total cost is slightly higher than its original level of $1.70; that is because of the U shape of the curve.

The ﬁrm is making an economic proﬁt shown by the shaded rectangle in Panel (b). Other ﬁrms in the industry will earn an economic proﬁt as well, which, in the long run, will attract entry by new ﬁrms. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 243Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ New entry will shift the supply curve to the right; entry will continue as long as ﬁrms are making an economic proﬁt. The supply curve in Panel (a) shifts to S 2, driving the price down in the long run to the original level of $1.70 per bushel and returning economic proﬁts to zero in long-run equilibrium. A single ﬁrm will return to its original level of output, q 1 (point A′ ) in Panel (b), but because there are more ﬁrms in the industry, industry output rises to Q 3(point C) in Panel (a).

FIGURE 9.17 Short-Run and Long-Run Adjustments to an Increase in Demand The initial equilibrium price and output are determined in the market for oats by the intersection of demand and supply at point A in Panel (a). An increase in the market demand for oats, from D 1to D 2in Panel (a), shifts the equilibrium solution to point B. The price increases in the short run from $1.70 per bushel to $2.30. Industry output rises to Q 2. For a single ﬁrm, the increase in price raises marginal revenue from MR 1to MR 2; the ﬁrm responds in the short run by increasing its output to q 2. It earns an economic proﬁt given by the shaded rectangle. In the long run, the opportunity for proﬁt attracts new ﬁrms. In a constant-cost industry, the short-run supply curve shifts to S 2; market equilibrium now moves to point C in Panel (a). The market price falls back to $1.70. The ﬁrm’s demand curve returns to MR 1, and its output falls back to the original level, q 1. Industry output has risen to Q 3because there are more ﬁrms.

A reduction in demand would lead to a reduction in price, shifting each ﬁrm’s marginal revenue curve downward. Firms would experience economic losses, thus causing exit in the long run and shifting the supply curve to the left. Eventually, the price would rise back to its original level, assuming changes in industry output did not lead to changes in input prices. There would be fewer ﬁrms in the industry, but each ﬁrm would end up producing the same output as before.

Changes in Production Cost A ﬁrm’s costs change if the costs of its inputs change. They also change if the ﬁrm is able to take ad- vantage of a change in technology. Changes in production cost shift the ATCcurve. If a ﬁrm’s variable costs are aﬀected, its marginal cost curves will shift as well. Any change in marginal cost produces a similar change in industry supply, since it is found by adding up marginal cost curves for individual ﬁrms. Suppose a reduction in the price of oil reduces the cost of producing oil changes for automobiles.

We shall assume that the oil-change industry is perfectly competitive and that it is initially in long-run equilibrium at a price of $27 per oil change, as shown in Panel (a) of Figure 9.18. Suppose that the re- duction in oil prices reduces the cost of an oil change by $3. 244 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ FIGURE 9.18 A Reduction in the Cost of Producing Oil Changes The initial equilibrium price, $27, and quantity, Q 1, of automobile oil changes are determined by the intersection of market demand, D 1, and market supply, S 1 in Panel (a). The industry is in long-run equilibrium; a typical ﬁrm, shown in Panel (b), earns zero economic proﬁt. A reduction in oil prices reduces the marginal and average total costs of producing an oil change by $3. The ﬁrm’s marginal cost curve shifts to MC 2, and its average total cost curve shifts to ATC 2. The short-run industry supply curve shifts down by $3 to S 2. The market price falls to $26; the ﬁrm increases its output to q 2 and earns an economic proﬁt given by the shaded rectangle. In the long run, the opportunity for proﬁt shifts the industry supply curve to S 3. The price falls to $24, and the ﬁrm reduces its output to the original level, q 1. It now earns zero economic proﬁt once again. Industry output in Panel (a) rises to Q 3because there are more ﬁrms; price has fallen by the full amount of the reduction in production costs.

A reduction in production cost shifts the ﬁrm’s cost curves down. The ﬁrm’s average total cost and marginal cost curves shift down, as shown in Panel (b). In Panel (a) the supply curve shifts from S 1 to S 2. The industry supply curve is made up of the marginal cost curves of individual ﬁrms; because each of them has shifted downward by $3, the industry supply curve shifts downward by $3. Notice that price in the short run falls to $26; it does not fall by the $3 reduction in cost. That is be- cause the supply and demand curves are sloped. While the supply curve shifts downward by $3, its in- tersection with the demand curve falls by less than $3. The ﬁrm in Panel (b) responds to the lower price and lower cost by increasing output to q 2, where MC 2and MR 2intersect. That leaves ﬁrms in the in- dustry with an economic proﬁt; the economic proﬁt for the ﬁrm is shown by the shaded rectangle in Panel (b). Proﬁts attract entry in the long run, shifting the supply curve to the right to S 3 in Panel (a) Entry will continue as long as ﬁrms are making an economic proﬁt—it will thus continue until the price falls by the full amount of the $3 reduction in cost. The price falls to $24, industry output rises to Q 3, and the ﬁrm’s output returns to its original level, q 1.

An increase in variable costs would shift the average total, average variable, and marginal cost curves upward. It would shift the industry supply curve upward by the same amount. The result in the short run would be an increase in price, but by less than the increase in cost per unit. Firms would ex- perience economic losses, causing exit in the long run. Eventually, price would increase by the full amount of the increase in production cost. Some cost increases will not aﬀect marginal cost. Suppose, for example, that an annual license fee of $5,000 is imposed on ﬁrms in a particular industry. The fee is a ﬁxed cost; it does not aﬀect marginal cost. Imposing such a fee shifts the average total cost curve upward but causes no change in marginal cost. There is no change in price or output in the short run. Because ﬁrms are suﬀering economic losses, there will be exit in the long run. Prices ultimately rise by enough to cover the cost of the fee, leaving the remaining ﬁrms in the industry with zero economic proﬁt. Price will change to reﬂect whatever change we observe in production cost. A change in variable cost causes price to change in the short run. In the long run, any change in average total cost changes price by an equal amount. The message of long-run equilibrium in a competitive market is a profound one. The ultimate be- neﬁciaries of the innovative eﬀorts of ﬁrms are consumers. Firms in a perfectly competitive world earn zero proﬁt in the long-run. While ﬁrms can earn accounting proﬁts in the long-run, they cannot earn economic proﬁts. CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 245Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ KEY TAKEAWAYS  The economic concept of proﬁt diﬀers from accounting proﬁt. The accounting concept deals only with explicit costs, while the economic concept of proﬁt incorporates explicit and implicit costs.

 The existence of economic proﬁts attracts entry, economic losses lead to exit, and in long-run equilibrium, ﬁrms in a perfectly competitive industry will earn zero economic proﬁt.

 The long-run supply curve in an industry in which expansion does not change input prices (a constant- cost industry) is a horizontal line. The long-run supply curve for an industry in which production costs increase as output rises (an increasing-cost industry) is upward sloping. The long-run supply curve for an industry in which production costs decrease as output rises (a decreasing-cost industry) is downward sloping.

 In a perfectly competitive market in long-run equilibrium, an increase in demand creates economic proﬁt in the short run and induces entry in the long run; a reduction in demand creates economic losses (negative economic proﬁts) in the short run and forces some ﬁrms to exit the industry in the long run.

 When production costs change, price will change by less than the change in production cost in the short run. Price will adjust to reﬂect fully the change in production cost in the long run.

 A change in ﬁxed cost will have no eﬀect on price or output in the short run. It will induce entry or exit in the long run so that price will change by enough to leave ﬁrms earning zero economic proﬁt.

TRY IT!

Consider Acme Clothing’s situation in the second Try It! in this chapter. Suppose this situation is typical of ﬁrms in the jacket market. Explain what will happen in the market for jackets in the long run, assuming noth- ing happens to the prices of factors of productionused by ﬁrms in the industry.What will happen to the equi- librium price? What is the equilibrium level of economic proﬁts?

Case in Point: Competition in the Market for Generic Prescription Drugs © 2010 Jupiterimages Corporation 246 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ Generic prescription drugs are essentially identical substitutes for more expensive brand-name prescription drugs. Since the passage of the Drug Competition and Patent Term Restoration Act of 1984 (commonly re- ferred to as the Hatch-Waxman Act) made it easier for manufacturersto enter the market for generic drugs, the generic drug industry has taken oﬀ. Generic drugs represented 19% of the prescription drug industry in 1984 and today representmore than half of the industry.U.S. generic sales were $15 billion in 2002 and soared to $192 billion in 2006. In 2006, the average price of a branded prescriptionwas $111.02 compared to $32.23 for a generic prescription.

A CongressionalBudget Oﬃce study in the late 1990s showed that entry into the generic drug industry has been the key to this price diﬀerential.As shown in the table, when there are one to ﬁve manufacturersselling generic copies of a given branded drug, the ratio of the generic price to the branded price is about 60%. With more than 20 competitors, the ratio falls to about 40%.

The generic drug industryis largely characterizedby the attributesof a perfectlycompetitivemarket.Compet- itors have good informationabout the product and sell identical products. The largest generic drug manufac- turer in the CBO study had a 16% share of the generic drug manufacturingindustry,but most generic manu- facturers’sales constitutedonly 1% to 5% of the market.The 1984 legislationeased entry into this market.And, as the model of perfect competitionpredicts, entry has driven prices down, beneﬁting consumers to the tune of tens of billions of dollars each year.

Price Comparison of Generic and Innovator Drugs, by Number of Manufacturers Number of Generic Manufacturers of a Given Innovator Drug Number of Innovator Drugs in Category Avg. Rx Price, All GenericDrugs in Category Avg. Rx Price, All Innovator Drugs in Category Avg. Ratio of the Generic Price to the InnovatorPrice for Same Drug 1 to 5 34$23.40 $37.20 0.61 6 to 10 26$26.40 $42.60 0.61 11 to 15 29$20.90 $50.20 0.42 16 to 20 19$19.90 $45.00 0.46 21 to 24 4$11.50 $33.90 0.39 Average $22.40 $43.000.53 Sources: Congressional Budget Oﬃce, “How Increased Competition from Generic Drugs Has Aﬀected Prices and Returns in the Pharmaceutical Industry,” July 1998. Available at www.cbo.gov; “Generic Pharmaceutical Industry Anticipates Double-Digit Growth,” PR Newswire, March 17, 2004. Available at www.Prnewswire.com; 2008 Statistical Abstract of the United States, Table 130.

ANSWER TO TRY IT! PROBLEM The availabilityof economic proﬁts will attract new ﬁrms to the jacket industry in the long run, shifting the market supply curve to the right. Entry will continue until economic proﬁts are eliminated.The price will fall; Acme’s marginal revenue curve shifts down. The equilibrium level of economic proﬁts in the long run is zero.

4. REVIEW AND PRACTICE Summary The assumptions of the model of perfect competition ensure that every decision maker is a price taker—the interaction of demand and supply in the market determines price. Although most ﬁrms in real markets have some control over their prices, the model of perfect competition suggests how changes in demand or in pro- duction cost will aﬀect price and output in a wide range of real-world cases.

A ﬁrm in perfect competitionmaximizesproﬁt in the short run by producing an output level at which margin- al revenue equals marginal cost, provided marginal revenue is at least as great as the minimum value of aver- age variable cost. For a perfectly competitive ﬁrm, marginal revenue equals price and average revenue. This implies that the ﬁrm’s marginal cost curve is its short-runsupply curve for values greater than average variable cost. If price drops below average variable cost, the ﬁrm shuts down.

CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 247Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ If ﬁrms in an industry are earning economic proﬁt, entry by new ﬁrms will drive price down until economic proﬁt achieves its long-run equilibrium value of zero. If ﬁrms are suﬀering economic losses, exit by existing ﬁrms will continue until price rises to eliminate the losses and economic proﬁts are zero. A long-run equilibri- um may be changed by a change in demand or in production cost, which would aﬀect supply. The adjust- ment to the change in the short run is likely to result in economic proﬁts or losses; these will be eliminatedin the long run by entry or by exit.

CONCEPT PROBLEMS 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?

5. Consider the following goods and services. Which are the most likely to be produced in a perfectly competitive industry? Which are not? Explain why you made the choices you did, relating your answer to the assumptions of the model of perfect competition.

a. Coca-Cola and Pepsi b. Potatoes c. Private physicians in your local community d. Government bonds and corporate stocks e. Taxicabs in Lima, Peru—a city that does not restrict entry or the prices drivers can charge f. Oats 6. Explain why an economic proﬁt of zero is acceptable to a ﬁrm.

7. Explain why a perfectly competitive ﬁrm whose average total cost exceeds the market price may continue to operate in the short run. What about the long run?

8. You have decided to major in biology rather than computer science. A news report suggests that the salaries of computer science majors are increasing. How does this aﬀect the opportunity cost of your choice?

9. Explain how each of the following events would aﬀect the marginal cost curves of ﬁrms and thus the supply curve in a perfectly competitive market in the short run.

a. An increase in wages b. A tax of $1 per unit of output imposed on the seller c. The introduction of cost-cutting technology d. The imposition of an annual license fee of $1,000 10. In a perfectly competitive market, who beneﬁts from an event that lowers production costs for ﬁrms?

11. Dry-cleaning establishments generate a considerable amount of air pollution in producing cleaning services. Suppose these ﬁrms are allowed to pollute without restriction and that reducing their pollution would add signiﬁcantly to their production costs. Who beneﬁts from the fact that they pollute the air?

Now suppose the government requires them to reduce their pollution. Who will pay for the cleanup?

(Assume dry cleaning is a perfectly competitive industry, and answer these questions from a long-run perspective.) 12. The late columnist William F. Buckley, commenting on a strike by the Teamsters Union against UPS in 1997, oﬀered this bit of economic analysis to explain how UPS had succeeded in reducing its average total cost: “UPS has done this by ‘economies of scale.’ Up to a point (where the marginal cost equals the price of the marginal unit), the larger the business, the less the per-unit cost.” Use the concept of economies of scale, together with the information presented in this chapter, to explain the error in Mr. Buckley’s statement. [1] 13. Suppose that a perfectly competitive industry is in long-run equilibrium and experiences an increase in production cost. Who will bear the burden of the increase? Is this fair?

14. Economists argue that the ultimate beneﬁciaries of the eﬀorts of perfectly competitive ﬁrms are consumers. In what sense is this the case? Do the owners of perfectly competitive ﬁrms derive any long- run beneﬁt from their eﬀorts?

15. Explain carefully why a ﬁxed license fee does not shift a ﬁrm’s marginal cost curve in the short run. What about the long run?

248 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ NUMERICAL PROBLEMS 1. The graph below provides revenue and cost information for a perfectly competitive ﬁrm producing paper clips.

Output Total Revenue Total Variable Cost Total Fixed Cost 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 a. How much are total ﬁxed costs?

b. About how much are total variable costs if 5,000 paper clips are produced? c. What is the price of a paper clip?

d. What is the average revenue from producing paper clips? e. What is the marginal revenue of producing paper clips? f. Over what output range will this ﬁrm earn economic proﬁts?

g. Over what output range will this ﬁrm incur economic losses? h. What is the slope of the total revenue curve? i. What is the slope of the total cost curve at the proﬁt-maximizing number of paper clips per hour?

j. 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:

Quantity Total cost Quantity Total cost 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 a. Prepare a table that shows total variable cost, average total cost, and marginal cost at each level of output.

b. 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).

c. 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.) d. Suppose the demand curve in the market for rocking chairs is given by the following table:

Price Quantity of chairs Demanded/day Price Quantity of chairs Demanded/day$650 5,000 $4507,000 $550 6,000 $3508,000 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?

e. 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.

CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 249Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ Output Total revenue Total variable cost Total ﬁxed cost 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 4. Suppose a rise in fuel costs increases the cost of producing oats by $0.50 per bushel. Illustrate graphically how this change will aﬀect the oat market and a single ﬁrm in the market in the short run and in the long run.

5. Suppose the demand for car washes in Collegetown falls as a result of a cutback in college enrollment. Show graphically how the price and output for the market and for a single ﬁrm will be aﬀected in the short run and in the long run. Assume the market is perfectly competitive and that it is initially in long-run equilibrium at a price of $12 per car wash. Assume also that input prices don’t change as the market responds to the change in demand.

6. Suppose that the market for dry-erase pens is perfectly competitive and that the pens cost $1 each. The industry is in long-run equilibrium. Now suppose that an increase in the cost of ink raises the production cost of the pens by $.25 per pen.

a. Using a graph that shows the market as a whole and a typical ﬁrm in this market, illustrate theshort run eﬀects of the change.

b. Is the price likely to rise by $.25? Why or why not? c. If it doesn’t, are ﬁrms likely to continue to operate in the short run? Why or why not?

d. What is likely to happen in the long run? Illustrate your results with a large, clearly labeled graph.

250 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ 1.

ENDNOTES William F. Buckley, “Carey Took on ‘Greed’ as His Battle Cry,” The Gazette, 22 August 1997, News 7 (a Universal Press Syndicate column).

CHAPTER 9 COMPETITIVE MARKETS FOR GOODS AND SERVICES 251Personal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$ 252 PRINCIPLES OF ECONOMICSPersonal PDF created exclusively for ruthi aladjem $ruthi.aladjem@uopeo\ ple.org$