1. (Long-Run Industry Supply) Why does the long-run industry supply curve for an
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Question
1. (Long-Run Industry Supply) Why does the long-run industry supply curve for an increasing-cost industry slope upward? What causes the increasing costs in an increasing-cost industry?
2. The National Council of Economic Education’s EconEdLink has an interesting module on the economics of Internet access at http://www.econedlink.org/teacher-lesson/10 Please review the materials provided. Is provision of Internet access a competitive industry? Briefly discuss.
3. Commodities like gold often trade in markets that are examples of perfect competition. Think a commodity that you believe trades in a perfectly competitive market, and describe why you believe this is so.
4. (The Short-Run Firm Supply Curve) An individual competitive firm’s short-run supply curve is the portion of its marginal cost curve that equals or rises above the average variable cost. Explain why.
5. What are the major characteristics of perfectly competitive market?
6. (Perfect Competition and Efficiency) Define productive efficiency and allocative efficiency. What conditions must be met to achieve them?
Explanation / Answer
Increasing Cost industry is one in which the costs of production increase as the number of companies involved with that industry increases due to increase in the demand for the product. This happens because each new company increases demand for supplies and raw material needed.
An increasing cost industry occurs because due to increase in demand, the new firms enter in the market causes the long-run average cost curve of each firm to shift upward, which increases the minimum efficient scale of production.
Following is the graph showing the effect and long run supply curve of the industry:
The original market is in equilibrium where original demand equates to original supply. The equilibrium price is P0 and quantity is Q1. suppose, there is increase in demand for the commodity, this will lead to shift in demand curve from D to D1. the price and quantity is higher and existing firm responds to this demand shock. This high price induces the existing firm to increase their quantities produced. At the same point, the higher price leads to above-normal profit situation and there is free entry and exit of the firm and conclude the new firms will enter the market. And the supply curve will shift rightwards. The new equilibrium point is E and the new equilibrium price is P1 and quantity is Q2. The shift of supply curve decides the shape of long run supply curve of the industry.
If the shift in supply is full extent to that of demand, then the long run supply is horizontal line parallel to x-axis. (Constant cost industry)
If the supply increased more than the demand, then the long run supply will be downward sloping (decreasing cost industry),
If the supply will increase less than the supply then the long run supply curve is upward sloping (increasing cost industry)
In this case of increasing-cost industry, the long run supply curve is upward sloping. Therefore, the red line in the graph is the long run supply curve of the increasing-cost industry.
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