Question

1.Define, discuss, that demonstrates the relationship between Adam Smith’s Invisible Hand Theory and Perfect Competition?

2. discuss the necessary conditions that must exist in order for a market to be perfectly competitive.

3. discuss the notion that for a perfectly competitive firm to maximize profit they must operate at the point where MR=MC which is the same as P=MC?

4.discuss the difference between the short run shut down point and the long run going out of business point?

5.discuss when firms are likely to enter a market and when firms are likely to exit a market?

Answer 1

1 ) ADAM SMITH'S INVISIBLE HAND THEORY - This theory is given by Adam Smith's in his book "The Wealth of Nations" as free trade without restrictions. Things should be left to be determined by the market forces, without government nterventions . This is called free market system, where everyone will work for his/her own interest.

When things are left in the market without government intervention people alone can buy or sell freely, trade freely,traders will compete in the market.

PERFECT COMPETITION - Perfect competition is a market system where all firms sell the identical products, firms cannot influence the market prices.

RELATIONSHIP BETWEEN ADAM SMITH'S INVISIBLE HAND AND PERFECT COMPETITION -

In a perfect competition price of a product is determined by demand and supply forces , buyers and sellers can't determine the price.Adam smith's also says as let market forces will determine the price.This condition where demad and supply forces determine prices are called PRICE MECHANISM. This price mechansim is also refered as INVISIBLE HAND by Adam Smith.

In any imbalance condition of the market , it help producers and consumer how to attain equilibrium through a natural condition of demand and supply.

2) CONDITIONS THAT MUST EXIST IN ORDER FOR A MARKET TO BE PERFECRTLY COMPETITIVE -

* There is a large number of firms producing and selling a product.

* The product of all firms is homogeneous.

* Both sellers and buyers have perfect information about the prevailing price in the market.

* Entry and exist from the industry is free for the firms.

3) FOR A PERFECTLY COMPETITIVE FIRM TO MAXIMIZE PROFIT -

4) SHORT RUN SHUTDOWN POINT - The short run shutdown point is apoint for competitive firm is the output level at the minimum of the average variable cost curve.

LONG RUN SHUTDOWN POINT - A long run shutdown point is a point for the cometitive firm is the output level at the mnimum of average total cost curve.