ARE BUSINESSES EFFICIENT?
In lessons 8/9, 10, and 11 we will be
looking at the producer decision of HOW MUCH TO PRODUCE. We
will use benefit cost analysis (MB=MC) to find the profit
maximizing quantity which is WHAT WE GET. Once we know how
much businesses will produce, we will ask: Is this quantity
efficient (both allocatively and productively)? The
efficient quantity is WHAT WE WANT.
We already know that businesses will
maximize profits when they produce the equilibrium quantity
where Qs=Qd (lesson 3c). We also know that for competitive
markets this will be the efficient quantity (except in a few
situations where the market fails - lessons 5a and
5b).
Economists have four different models
which they use to classify businesses. See diagram below.
Keep in mind that there are thousands of business firms. And
when a business starts they do not look at an economics
textbook to see which model they want to be. With only four
product market models many businesses will not fit exactly
into one of the four models. Think of the four product
market models as a continuum (see diagram) with pure
competition on one end, pure monopoly on the other end, and
all businesses will fall somewhere in-between even though
they my not fit neatly into any one single
model.
We will begin by looking at
competitive markets in lessons 8/9a and 8/9b. We should not
be surprised that in competitive markets when businesses
produce the profit maximizing quantity (WHAT WE GET), they
will also be producing the allocatively and productively
efficient quantities (WHAT WE WANT). Competitive markets
are efficient.
There are few real world examples of
competitive industries. Agriculture comes close. But, we do
not study pure competition just to understand agriculture.
We study pure competition because IF it did exist then it
would be efficient (both allocatively and productively).
Pure competition helps us to better learn what efficiency
means. Once we know this, we will study the "real world" in
lessons 10a, 10b, 11a, 11b and compare the real world with a
competitive world. We therefore use pure competition as a
standard against which we can compare the real world, a
standard of efficiency.
For each of the four product market
models (lessons 8-11) you should use the following general
outline to guide your studying:
General Outline for Each Product
Market Model:
1. Know the model's
characteristics and examples (See the "8/9a QUIZ - 4
PRODUCT MARKETS" quiz on our Blackboard site.)
2. Be able to explain the shape of the demand curve
3. Draw the short run equilibrium graphs for (a) profit
maximizing firms, (b) loss minimizing firms, and (c)
firms that will shut down
4. Draw the long run equilibrium graph and find the
profit maximizing quantity (WHAT WE GET), allocatively
efficient quantity (WHAT WE WANT), and the productively
efficient quantity. See the last 13 pages of the Unit 3
Yellow Pages ("3 Rules and 4 Models").
5. Understand any other issues associated with the
model
Never forget this: To maximize
profits business will produce the quantity where MR=MC.
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