MArket Demand Curve, Average Revenue, Marginal Revenue For Perfect Competition - Need help? SMS +65 97587925 for tuition

PERFECT COMPETITION, DEMAND Curve:

The demand curve for the output produced by a perfectly competitive firm is perfectly elastic at the going market price. The firm can sell all of the output that it wants at this price because it is a relatively small part of the market. As a price taker, the firm has no ability to charge a higher price and no reason to charge a lower one. The market price facing a perfectly competitive firm is also average revenue and, most important, marginal revenue.

A perfectly competitive industry is comprised of a large number of relatively small firms that sell identical products. Each perfectly competitive firm is so small relative to the size of the market that it has no market control, it has no ability to control the price. In other words, it can sell any quantity of output it wants at the going market price. This translates into a horizontal or perfectly elastic demand curve. It also translates in an equality between price, average revenue, and marginal revenue.

Perfectly Elastic Demand

Demand Curve, Perfect Competition

This exhibit illustrates the demand curve for the output produced by a perfectly competitive firm The left side of the graph illustrates the overall market, in particular, the supply offer by millions of suppliers and the demand of millions of buyers. The equilibrium price achieved in the market is $2.50 and the equilibrium quantity is 100 million.

The right side of this graph illustrates the demand for individual firm. Note that even though both sides of this exhibit look to be about the same size, the quantity axes have different measurement units. 

The key for producer is that he can produce any quantity of zucchinis that he wants at $2.50, the going market price. Given millions of buyers, someone is willing and able to buy 5 to 10 products from producer at $2.50 each. That makes the horizontal line emerging from the $2.50 price, the demand curve for individual seller.

Marginal and Average Revenue

This demand curve is also the average revenue curve and the marginal revenue curve facing individual seller. Average revenue is the per unit revenue received for selling the product. If individual seller sells 10 products for $2.50 each, his total revenue is $25. His per revenue for these 10 products is then $2.50, which is also the price.

Marginal revenue is the extra revenue received for selling one more product. In individual seller's case, each additional product sold generates exactly $2.50 of extra revenue. individual seller's marginal revenue is also $2.50 for every product sold.

This point might seem so incredibly obvious that there is really no reason to even mention it. However, a number of industries that do NOT meet the ideal characteristics of perfect competition (which is most firms populating the real world economy), do not have perfectly elastic demand curves and their marginal revenue is not equal to average revenue or price. A perfectly elastic demand curve and the equality of price, average revenue, and marginal revenue is what makes perfect competition important to study as a benchmark against which real world market structures can be compared.

Adapted from Perfect Competition, AmosWEB