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6 Cards in this Set

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what are the 4 main assumptions of a perfectly competitive market?

1- made up of large number of small firms


2-there is perfect knowledge


3-homogeneous product


4-no barriers

state 3 other assumptions.

1- firms are price takers- no control over market price


2-short run profit maximisers (MC=MR)


3-no externalities

why can abnormal profits be made in the short run?

-abnormal profits encourage new firms to move to the industry. Easy due to no barriers. Outward shift in market supply forces down market price. Increase in supply will eventually reduce the market price so that only normal profits are made in the long run.

why can subnormal profits be made in the short run?

-incentive to leave industry (no barriers to exit)


supply would fall until the point where in the the long run normal profits are made.


NO MORE INCENTIVE TO MOVE & LR EQUILIBRIUM IS ESTABLISHED.

Name 4 advantages of Perfectly Competitive Market.

1-Allocative Efficiency: can be achieved in LR and SR because AR will always equal MC because firms are price takers. Maximum consumer surplus and economic welfare.


2-Static Efficiency: productive efficiency can also be achieved in the LR.


3-Less Market Failure: perfect knowledge, no externalities, no monopoly power.


4-Consumer Choice: is maximised due to the number of firms.

Name 6 disadvantages of Perfectly Competitive Market.

1-No scale economies. Firms are too small to achieve economies of scale. Won't operate near minimum efficient scale.


2-Cannot benefit from international trade- too small.


3-No abnormal profits=no dynamic efficiency. Bad for industries where R&D spending is essential (pharmaceuticals)


4-Perfect knowledge- no incentive to develop new technologies.


5-Unlikely to exist. ALWAYS barriers and ALWAYS marker failures e.g. monopoly power, externalities.


6-Need firms to grow in order to create jobs.