Question

In the long run, there is free entry into a price-taker market. Assume that there is a downward-sloping demand curve for the market. Assume that firms already in the market currently earn economic profits. Which sequence of events best describes the change in prices and output as a result of free entry?

A. Demand curve shifts to the right, causing prices to rise; overall output increases.

B. Demand curve shifts to the left, causing prices to fall; overall output decreases.

C. The short-run market supply curve shifts to the right, causing prices to fall; overall output increases.

D. The short-run market supply curve shifts to the left, causing prices to rise; overall output decreases.

Answer 1

The correct answer is (C) The short-run market supply curve shifts to the right, causing prices to fall; overall output increases

Firms are earning economic profits and suppose new firm enters the market and hence the number of sellers increase and as this is a price taking firms and hence every new entrant will sell quantity at that price and hence at any level of price now more amount will be supplied and hence, Supply curve shifts to the Right in Short Run( Note in the Long each firms earn 0 profit and P = ATC = MC and each firm produces that quantity at which P = ATC =MC). Hence in this case short run supply curve shift to the right. Now at the previous price there will be excess supply ad hence price will start to fall and because of quantity supply falls and quantity demand rises(According to law of demand and supply). and this will continue till Quantity demand = quantity supplied. Hence, Now price is less than before and quantity is more than before in the short run.

Hence, the correct answer is (C) The short-run market supply curve shifts to the right, causing prices to fall; overall output increases