Module 8 Perfect Competition Instructions Only provide your opinions when specif

Question

Module 8 Perfect Competition Instructions Only provide your opinions when specifically called for. In all other cases your answer(s) should rely on the text and module materials and not on the internet, showing your capacity to apply the appropriate economic principles and concepts correctly. Describe how firms in Perfect Competition achieve both allocative and productive efficiency. Why is the portion of the marginal cost curve above the minimum average variable cost the short run supply curve in Perfect Competition?

Explanation / Answer

Productive efficiency occurs when the firms are producing the resources as per the choice on the production possibility frontier and there is no waste.In the long run,the perfectly competitive market,the market price is equal to the minimum of the average cost curve.This happens because of free entry and exit as if the firms are making profits,new firms will enter the market and the price and profit will get lower and in case of losses,some firms will exit the market which will bring the firms back in the market by capturing some market share and recover their average variable cost.It ensures that the goods are produced and sold at the lowest possible average cost.

Allocative efficiency refers to the point on the production possibility frontier which is socially optimal or preferred.In a perfectly competitive market,P=MC.This means that marginal cost of a good represents the social cost of producing the good which is equal to the price which means that the firms are offering the goods at the price at which the consumers willingness to pay is equal its worth.It ensures that social benefits received from buying a good ie equal to its social cost of production.

Therefore,the perfectly competitive market achieves both allocative and productive efficiency.

The MC curve which lies above the minimum of AVC curve is supply curve of a firm in the short run.Under perfect competition,a firm produces the output when P=MC.It measn that the price line is parallel to the horizontal axis.

At the price where MC= minimum AVC,is the point known as shud down point.The firm experiences losses below this point and is only able to cover variable cost but not fixed cost.If it continues production where MC=ATC curve then the firm is not only able to recover its variable cost but also its fixed cost.This point is known as break even point.If MC curve goes beyond this point,it means positive profits for the firm.

Therefore,MC curve that lies above AVC curve is the supply curve for a perfectly competitive firm in the short run.It shows that the firm will supply only at those points either lying at minimum of AVC of above it but not below the minimum of AVC.

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