Overview

Firm behavior varies across different market structures, each with unique characteristics influencing price, output, efficiency, and profit. This topic examines how firms maximize profit and how structure shapes decision-making, strategic behavior, and long-run outcomes.

Key Themes and Concepts

• Profit:
  • Accounting profit: Total revenue minus explicit costs.
  • Economic profit: Total revenue minus explicit and implicit costs.
  • Normal profit: Zero economic profit — still a sustainable outcome in perfect competition.
• Profit Maximization: Occurs when marginal revenue (MR) = marginal cost (MC). This rule applies across all market structures.
• Perfect Competition:
  • Many small firms, identical products, no barriers to entry.
  • Firms are price takers; demand curve is perfectly elastic.
  • In long-run equilibrium, firms earn normal profit and operate efficiently (P = MC = minimum ATC).
• Monopoly:
  • One firm, high barriers to entry, unique product.
  • Firms are price makers; face downward-sloping demand.
  • Results in deadweight loss and allocative inefficiency.
  • May engage in price discrimination to increase profit.
• Monopolistic Competition:
  • Many firms, differentiated products, low barriers to entry.
  • In long-run equilibrium, firms earn zero economic profit but do not produce at minimum ATC (excess capacity).
• Oligopoly:
  • Few large firms, barriers to entry, interdependent decision-making.
  • Models include kinked demand curve, collusion, and game theory.
  • Game theory tools: payoff matrix, dominant strategies, Nash equilibrium.

Quick Tip

Market structure determines how much control firms have. In perfect competition, firms are price takers. In monopoly and oligopoly, strategic behavior and pricing power dominate. Game theory is essential for analyzing firm decisions in interdependent markets.