Why are economic profits not possible in the long run in a purely competitive market? A....

Why are economic profits not possible in the long run in a purely competitive market?

A. Each firm is too small to make profit.

B. More firms will leave a profitable market, driving prices down.

C. Profitable markets drive prices too high and comsumers stop buying.

D. New firms will enter the matket and drive prices down.

Solutions

Expert Solution

Answer: D. New firms will enter the market and drive prices down.

In a purely competitive market of a commodity, if the existing firms in the market make economic profit in the short-run,i.e., price is greater than the average total cost(ATC) of production of the firms, it will attract other firms to enter the market. As a result, over the long-run, the supply of the commodity in the market rises. The increase in the supply of the commodity shifts the supply curve of the commodity rightward. Now, with the given demand in the market, the increase in the supply of the commodity decreases the price of the commodity over the long-run. The price will continue to fall as long as the new firms enter the market. The entry of new firms in the market will stop when the price of the commodity becomes equal to the ATC of the firms, i.e., the existing firms earn zero or normal economic profit. Thus the economic profits are not possible in the long run in a purely competitive market as the new firms will enter the market and drive prices down.

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Rahul Sunny answered 1 year ago

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