Is a type of market structure characterized by absence of rivalry among individual firms. It is a market structure based on the following assumptions or characteristics:-

Large number of sellers (firms) such that each individual firm has a small share of the market i.e supplies a small quantity to the market.

Many buyers implying that no single buyer can influence the market prices of goods and services.

All firms produce and sell homogeneous products. Thus, all products must be sold at the same price because if some firms increase, consumers will buy from other sources where prices are cheaper.

Firms or producers under perfect competition are price takers not price makers. This is due to the large number of firms and the homogeneity of the products.

There is freedom of entry and exit in the industry. Firms are free to enter the industry when there are super normal profits and are also free to quit the industry if they incur losses.

Buyers and sellers have perfect knowledge of existing market conditions. Firms are assumed to be familiar with their cost curves and the price ruling in the market.

No transport costs are involved. This assumption is based on the fact that both buyers and producers stay in the same place.

There is free mobility of factors of production such that factors can be transferred from areas of concentration to areas of scarcity.

The goal of the firm under perfect competition is profit maximization. So if firms are not making profits, they will not stay in the industry since they are not achieving their goal.

No government intervention of any form occurs under perfect competition.

Because of the assumptions like perfect knowledge, homogeneous products, many firms, no transport costs etc., each firm under perfect competition is faced with a perfectly elastic demand curve. Thus , no firm has an influence in market conditions and the price is the same for all firms and at all levels of output.

Figure 2.21

The firm's demand curve, is the same as its average revenue curve and the same as its marginal revenue curve.

 

Note: Pure competition is a market structure which fulfills the assumptions of perfect competition except the assumption of perfect mobility of factors of production and perfect knowledge of market conditions.

Shortrun equilibrium of a firm Under Perfect Competition.

In the shortrun, a firm under perfect competition can earn abnormal profits or make losses. A firm is in equilibrium when its marginal cost (MC) is equal to its marginal revenue (MR), thus, where MC = MR.

A firm earning abnormal profits

Figure 2.22

MC is marginal cost curve S

AC is shortrum average cost curve

P is Price

C is cost of production

Point e is the equilibrium position of the firm, because at that point, MC=MR. At point e, the firm maximizes profits by producing output Qe at an average cost C and selling it at a price Pe which is higher than the cost of production C. Since profit is got by subtracting total cost from total revenue, then the shaded area CpeCD represents the profits earned by the firm in the short run.

b) A firm incurring losses. A firm makes losses when the average cost of producing the commodity is higher, than the price at which the firm sells the commodity