Explain why some business owners find profitable to operate a business without improving or fixing the facility.Give and example of such business, and explain the rationale behind the business behavior using the concepts learned in Chapter 9.

Notes provided below.

Perfect Competition in the Short Run (Ch.9) 1. Market Structures Four Market Structures: . Perfect Competition . Monopoly . Monopolistic Competition . Oligopoly We will be discussing all four of these market models, but first we will start with pure competition. From the continuum, you can see that we are starting at one extreme of the possible market models. The other market models will be discussed in future chapters. Pure Monopolistic Competition Competition Oligopoly Pure Monopoly Market Structure ContinuumTABLE 9-1 Characteristics of the Four Basic Market Models MARKET MODEL Monopolistic Characteristic Perfect competition competition Oligopoly Monopoly Number of firms A very large number Many Few One Type of product Standardized Differentiated Standardized or Unique; no close differentiated substitutes Control over price None Some, but within Limited by mutual Considerable rather narrow limits interdependence considerable with collusion Conditions of entry Very easy, no obstacles Relatively easy Significant obstacles Blocked Nonprice competition None Considerable emphasis on Typically a great deal, Mostly public advertising, brand names, particularly with product relations/advertising trademarks differentiation Examples Agriculture Retail trade, dresses, Steel, automobiles, farm Local utilities shoes implements, many household appliances Pure competition is rare in the real world, but the model is important. The model helps analyze industries with characteristics similar to pure competition. The model provides a context in which to apply revenue and cost concepts developed in previous chapters. Pure competition provides a norm or standard against which to compare and evaluate the efficiency of the real world. 2. Perfect Competition: Characteristics and Occurrence Very large numbers Standardized product Price-takers Cannot change the market price Easy entry and exit Very large numbers of independent sellers each acting alone cannot influence the market price by increasing or decreasing their output because each has such a miniscule part of the entire market. A standardized product is a product for which all other products in the market are identical and thus are perfect substitutes. The consequence of this is that buyers are indifferent as to whom they buy from. Price takers have no pricing power; in other words, no ability to price their product. 2Easy: entgg and exit means that there are no obstacles to entry or to exit the industry. Perfectly elastic demand means that rm has no power to inuence price so the rm merely chooses to produce a certain level of output at the price that is given. The demand curve is not perfectly elastic for the industry; it only appears that way to the individual ml, since they must take the market price no matter what quantity they produce. The rm faces a perfectly elastic demand because each individual rm makes up such a small part of the total market and the goods are perfect substitutes. Note that this perfectly elastic demand curve is a horizontal line at the price. 3. Demand for a Firm in Perfect Competition ' Perfectly elastic demand ' Film produces as much or little as they want at the price *3 Film cannot obtain a higher price by lowering its output. *9 Firm does not need to lower its price to its sale. ' Individual lm's demand graphs as horizontal line *5 Market demand graphs as a downsloping curve. When a rm charges the same price for each unit of output, the average revenue is just the price of the good. Total revenue refers to the total amount of money that the rm collects for the sale of all of the units of their good. Marginal revenue reects the additional revenue that the lm will receive by producing one more unit of output. When the rm is deciding how much to produce, the rm considers the marginal revenue in their decision. ' Average Revenue ' Revernie per unit ' AR = mm: = P ' Total Revenue ' TR = P X Q ' Marginal Revenue ' Extra revernie from 1 more unit - MR=nTanQ The graph below shows a purely competitive firm's demand and revenue curves. The demand curve (D) of a purely competitive firm is a horizontal line (perfectly elastic) because the firm can sell as much output as it wants at the market price (here, $131). Because each additional unit sold increases total revenue by the amount of the price, the firm's total-revenue (TR) curve is a straight upsloping line and its marginal-revenue (MR) curve coincides with the firm's demand curve. The average-revenue (AR) curve also coincides with the demand curve: FIGURE 9-1 The Demand and Revenue Curves for a Firm in Perfect Competition FIRM'S DEMAND SCHEDULE FIRM'S REVENUE DATA (1) (4) Product price (P) (2) (3) Quantity demanded Total revenue (TR) Marginal revenue (average revenue) (1) x (2) (MR) $ 131 O 0 131 131 131 W N - $ 131 131 131 262 131 393 131 131 524 131 655 131 131 786 131 131 917 131 131 1048 131 131 1179 131 131 131 10 1310 The demand curve (D) of a firm in a perfectly competitive industry is a horizontal line (perfectly elastic) because the firm can sell as much output as it wants at the market price there, $1179 TR #131). Because each additional unit sold increases total revenue by the amount of the price, the firm's total-revenue curve [TR) is 1048 a straight upsloping line and its marginal-revenue curve (MR) coincides with the firm's demand curve. The average-revenue 917 curve (AR) also coincides with the demand curve. Price and revenue 786 655 524 393 262 131 D = MR = AR 2 4 6 8 10 12 Quantity demanded (sold)4. Prot Minimization in the Short Run ' Perfectly,F competitive rm can maximize its prot (minimize its loss) 01113.r by adjusting output ' Two Approaches: *Total revenuetotal cost approach *Marginal revenuemarginal cost approach In the table below, total costs are given as well as total revenue. Here we can start identifying where the rm will choose to produce using the total revenue-total cost approach. Based on TR- TC, the rm will produce where the di'erence between total revenue and total cost is the greatest. Based on this approach, the prot maximizing output is 9 units when the price is $131. MR=MC Rule: Firm produces the last unit of output for which MR > MC It only applies if MR > AVC It applies for all market structures It is P=MC under perfect competition In the table below, compare MC and MR at each level of output. The firm should continue to expand output as long as MR is greater than MC. The firm will maximize profits by producing the last unit of output where MR still exceeds the MC, or where MR=MC. At the tenth unit MC exceeds MR. Therefore, the firm should produce only nine units to maximize profits. Short-Run Profit-Maximizing for a Firm in a Perfectly Competitive Industry (5) (6) (1) (3) Price = Total Total (2) Average Average Total (5) Marginal Economic Product Average Fixed Variable Costs Cost Marginal Cost Revenue Profit (+) (Output) Cost (AFC) (AVC) (ATC (MC) (MR) or Loss (-) $-100 $100.00 $90.00 $ 190 $90 $131 -59 50.00 85.00 135 80 131 -8 33.33 80.00 113.33 70 131 +53 25.00 75.00 100.00 60 131 +124 5 20.00 74.00 94.00 70 131 +185 16.67 75.00 91.67 80 131 +236 14.25 77.14 91.43 90 131 +277 12.50 81.25 93.75 110 131 +298 11.11 86.67 97.78 130 131 +299 10 10.00 93.00 103.00 150 131 +280 Figure below shows the short-run profit maximization for a purely competitive firm. The MR-MC output enables the purely competitive firm to maximize profits or to minimize losses. In this case, MR (=P in pure competition) and MC are equal at an output, Q, of 9 units. At this output, P equals $131 and exceeds the average total cost, and A = $97.78, so the firm realizes an economic profit of P - A per unit. The total economic profit is represented by the green rectangle and is (Price - ATC) * 9.Cost and Revenue 5. Prot Maximization in the Short Run: MarginalRevenneMarginalCost Approach Losshiinimizing Case In the short nm the rm only has two choices: produce or shut-down. There is not enough time in the short run for the rm to get out of business. Given these options, sometimes the lm will produce, but still make a loss. In these situations, the loss rom producing is smaller than the loss if the rm shut-down so this is the rm's best choice. *3 Still produce because P 2' minAVC '3' This loss is less than FC *3 Losses at a minimum where W=MC Short-Run Loss-Minimizing Position of a Firm in a Perfectly Competitive Industry (6) (8) (1) (3) (2) (4) P =$81 (7) P = $71 (9) Total Average (5) marginal Profit (+) or marginal Profit (+) or product Average fixed variable Average total Marginal revenue, /output loss (-). revenue, cost, AVC loss (-). cost, AFC cost, ATC cost, MC MR $81 price MR $71 price S-100 S-100 $100.00 $90.00 $190.00 $ 90 81 - 109 $71 -119 50.00 85.00 135.00 80 81 - 108 71 -128 33.33 80.00 113.33 70 81 -97 71 -127 25.00 75.00 100.00 60 81 - 76 71 -116 20.00 74.00 94.00 70 21 65 71 -115 6 16.67 75.00 91.67 80 81 -64 71 -124 14.29 77.14 91.43 71 -143 12.50 81.25 93.75 110 81 - 102 71 -182 1 1.11 86.67 10 97.78 130 81 - 151 71 -241 10.00 93.00 103.00 150 81 - 220 71 -320 Figure below shows the short-run loss minimization for a purely competitive firm. If price, P, exceeds the minimum AVC (here $74 at Q = 5) but is less than ATC at the MR = MC output (here 6 units) then the firm will earn losses, but it will produce. In this instance the loss is P - A per unit, where A is the average total cost at 6 units of output and price equals $81. The total loss is shown by the red area and is equal to (P-ATC)*6. 6. The Short-Run Loss-Minimizing Position of a Firm in a Perfectly Competitive Industry $200 ML Cost and Revenue 150 Loss A=$91.67 ATC 100 AVC P=$81 MR = P 50 V=$75 1 2 3 4 5 6 7 8 9 10 OutputThe gaph below shows the short-run shutdown case for a purely competitive rm. If price P (here equal to $71) falls below the minimum AVG (here $11 at Q: 5), the competitive rm will minimize its losses in the short run by shutting down. There is no level of output at which the rm can produce and incur a loss smaller than its total xed cost. In other words, the $100 xed cost is the minimum possible loss. 'I I 5200 150 dJ 3 c 9 g v 13 100 C m E F5?1 R P U _ _ 50 ShortRun Shut Down Point P v: Minimum MIC SM ATC (TR > TC) in economic profits? What is the market equilibrium? The market equilibrium condition is where quantity demanded equals quantity supplied. This will occur at a price of $111 and this price is the equilibrium, or market clearing price. We can see that the industry demand curve is a typical, downward sloping demand even though, for the firm, the demand curve is perfectly elastic and horizontal (see graph below).Firm and Market Supply and the Market Demand (1) (2) Quantity Total (4) Supplied, Quantity (3) Total Single Supplied, Product Quantity Firm 1000 Firms Price Demanded 10 10,000 $151 4,000 9 9,000 131 6,000 8 8,000 111 8,000 7,000 91 9,000 6,000 81 11,000 0 71 13,000 0 61 16,000 9. Competitive Equilibrium The graph below shows the short-run competitive equilibrium for (a) a firm and (b) the industry. The horizontal sum of the 1000 firms' individual supply curves (s) determines the industry supply curve (S). Given industry demand (D), the short-run equilibrium price and output for the industry are $111 and 8000 units. Taking the equilibrium price as given, the individual firm establishes its profit-maximizing output at 8 units and, in this case, realizes the economic profit represented by the green area. Individual firms must take price as given, but the supply plans of all competitive producers as a group are a major determinant of product price.Short-Run Competitive Equilibrium for a Firm (Panel a) and the Industry (Panel b) S =JMC's S = MC Economic Profit ATC $111 $111 AVC D 8 8000 (a) Single firm (b) Industry For firms facing losses due to fixed costs, shutting down in the short run does not mean shutting down forever. . Low prices can be temporary . Some firms switch production on and off depending on the market price Examples: oil producers, resorts, and firms that shut down during a recession