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32-1: Equilibrium Adjustments Facing Shocks, Long-run Supply Curve for a CCI: Consider a perfectly competitive industry below. The left panel of the diagram depicts the industry' 5 aggregate supply and demand curves, while the right panel depicts the east curves of a typical prot-maximizing rm in this industry. Assume that the cost structure will stay constant as industry expands or contracts. That is, this is a constant cost industry lCCI}. Price s Individual Firm 313 312 310 5" ill 12' Market Quantity, 0 {in millions] Remnant-thin Flrrn Quantity. q [h Manda] {1} With the supply and demand curves being 51 and D1, respectively, the industry is currently at Point 0 [see the left panel}. With P - $10 at :1, answer the following three questions: {ii What is the representative firm's output quantity? Answer: q - K Units {ii} What is the representative rm's total prot? Answer: profit I 5 It (iii) Is Point 0 a long-long equilibrium? Yes or no? Answer: {2} Now, let' s disturb the equilibrium! Let's shift the demand curve from D1 to D: (say, due to an increase in population). With the new demand curve D: and the "yet to change\" supply curve 51, the market has moved from Point 0 to Point T, where the letter T is used to emphasize that this latter point is only a transient solution. With P = $13 at T, answer the following three questions: {ii What is the representative finn's new output quantity? Answer: q'r = It Units {ii} What is the representative nn's total prot? Answer: Prot' = S K (ill) ls PolntT a long-lam equilibrium? Yes or no? Answer: {3} Given your answer in {2-H}, will there be entry or exit? Answer: Then, will the supply curve (currently, at 51] shift right or left? Answer: 32-2: Price 5 Individual Firm Market Quantity. 0 (in millions) Representative Firm Quantity. q (In thousands] (4) Entry or exit will continue until the representative firm's economic prot is driven down or driven up, respectively, to zero. From the right panel, at what price would the prot-maximizing firm's economic prot be zero? Answer: 5 [5) (ii Draw the new industry supply curve on the left diagram that would result in the equilibrium price you indicated in {4] and label it as 5;. (iii What is the industry's new equilibrium price? {ill} What is the industry' s new equilibrium quantity? Answer: PM" I S Q\" I M Units {6} Given Pm, what is the firm's new profit-maximizing output quantity? (Hint: right panel} Answer: q""' I __ K Units {7} Given {6], what is rm's profit per unit of output? Answer: 5 {8} Has long-run equilibrium been re-established? Yes or no? Answer: {9} Denote in the left panel the new equilibrium point by I. {10} The market has moved from the previous long-run equilibrium point of n to the new long-run equilibrium point of I, facing population shock {recall: the population increase has caused the demand to shift out from D1 to D2]. At :1, (P, 0] = [$10, 5M], and at 1, IF, C1] = {$10, 12 Mi. Clearly, the population increase has caused the industry to . (Pick: expand or contract?) Answer: 32-3: The diagram and the three bullet points below summarizes the analysis in (12-1 and 0.2-2. - First, the market is originally at Point :2 [P = $10) which is a long-run equilibrium; the representative rm in the right panel is making zero economic profit when P = $10. - Second, the population shocks shift the demand curve from 01 to Dz in the left panel, moving the market from Point 0 to Point T (P = $13]. Point T is transient because it is not a long-run equilibrium; the representative rm in the right panel is making positive eoonomic prot with P = $13. New rms will enter. - With entry, the supply curve shifts from 51 to 52, moving the market from Point T to Point E (P = $10). Point I is a long-run equilibrium because the old equilibrium price of P = $10 is restored; the representative firm in the right panel is making zero economic prot. Price 5 Individual Finn M0 arc 5\" Ml HIM Quantity. 0 [in millions] mm Flrl'll m. I: [In thousands} 13! In 10x {11} Connecting Point I: and Point 1, we trace out the industry long-run supply curve. (I) Label the industry's long-run supply curve as LR Supply Curve. Ill) Is the LR supply curve an upward sloping line or a horizontal line? Answer: {12} The horizontal long-run supply curve is due to the assumption that the industry Is a constant cost industry. Under this assumption the original equilibrium price of $10 is restored once the Industry reaches new equilibrium. The supposition of constant cost industry assumes that the rrn's cost structure will stay the same as the industry expands or contracts. For example, it assumes that the economy's wage rates will stay the same as this single industry expands or contracts. This assumption ls appropriate insofar as the industry in question is relatively compared to the size of the economy as a whole. (Pick: small or large?)