Industry Supply

Question 1

How is the Short-Run (SR) Industry Supply curve derived?

Answer 1

It is the horizontal sum of all the individual firms’ supply curves (the portion of their MC curves above AVC).

Question 2

How is the short-run market equilibrium defined?

Answer 2

It occurs where the market demand curve intersects the market supply curve.

Question 3

When do firms earn positive economic profits in the short run?

Answer 3

When the combination of price and output results in the firm operating at a point above its Average Cost (AC) curve (i.e., when P > AC).

Question 4

What condition will cause new firms to enter an industry in the long run?

Answer 4

The existence of positive economic profits (P > 0) will induce entry.

Question 5

What condition will cause firms to exit an industry in the long run?

Answer 5

The existence of economic losses (P < 0) will induce exit to cut losses.

Question 6

What is meant by “Free Entry”?

Answer 6

It means there are no significant barriers; anyone can enter the industry to compete for profits.

Question 7

What are “Barriers to Entry”? Provide examples.

Answer 7

They are restrictions that constrain the number of firms, such as licenses, permits, patents, or control over a fixed factor.

Question 8

What is the long-run equilibrium price in a perfectly competitive industry with free entry and exit?

Answer 8

The price will be where P* equals the minimum point of the Average Cost (AC) curve.

Question 9

What happens to the market supply curve and price as new firms enter an industry?

Answer 9

The market supply curve shifts to the right (flattens) and the market price falls.

Question 10

What guarantees that a new firm will enter an industry?

Answer 10

If the new firm can generate positive economic profits by entering.

Question 11

How can a shift in market demand allow for new firm entry?

Answer 11

An increase in market demand raises the price, which can generate positive profits, thereby attracting new firms.

Question 12

What does the long-run number of firms in an industry depend on?

Answer 12

It depends on the market price and the level of Average Cost (AC) at the efficient scale.

Question 13

What determines the industry’s long-run supply curve?

Answer 13

It is determined by the price level, market demand, market supply, and the AC and MC of the individual firms.

Question 14

What happens to the industry supply curve as the firms in it become smaller/more numerous?

Answer 14

The industry supply curve becomes flatter and equals the minimum AC.

Question 15

What are the characteristics of a Long-Run Equilibrium with Free Entry and Exit?

Answer 15

• P = min AC(y) for y>0
• Firms earn zero economic profit.
• The long-run supply curve is flat (perfectly elastic).

Question 16

What is the impact of a tax in the SHORT RUN?

Answer 16

The short-run supply curve shifts, causing consumers to pay a higher price and producers to receive a lower price.

Question 17

What is the impact of a tax in the LONG RUN?

Answer 17

At the new equilibrium, P = min AC, but with the tax, firms incur losses (negative profit). This causes exit, reducing supply until consumers bear the entire burden of the tax.

Question 18

Why are profits zero in the long-run equilibrium with free entry?

Answer 18

Positive profits attract new firms, increasing supply and driving the price down until profits are zero.

Question 19

If profits are zero, why do firms stay in the industry?

Answer 19

“Zero profit” means they are earning exactly enough to cover all their costs, including the opportunity cost of the resources they use. This is a normal accounting profit.

Question 20

Can a firm appear to have positive profits in the long run? If so, why?

Answer 20

Yes, if it owns a valuable fixed factor (e.g., a prime location, a license). The apparent “profit” is actually a cost—the economic rent that factor could earn.

Question 21

What is Economic Rent?

Answer 21

It is the price paid for a factor of production above and beyond the minimum amount necessary to bring it into production (its opportunity cost).

Question 22

In the context of a fixed factor like a license, what is the economic rent equal to?

Answer 22

The economic rent is the long-run fixed cost. It is the difference AC - AVC = F, which is the payment to the owner of the fixed input.

Question 23

What is the relationship between Producer Surplus and Economic Rent in the long run?

Answer 23

In the long run, for a fixed factor, the Producer Surplus is the Economic Rent.

Question 24

How is the price of rent for a fixed factor (like a license) determined?

Answer 24

It is determined by the equilibrium price in the market for that factor, which will be bid up to a level that drives economic profits for the firm down to zero.

Question 25

What is Rent-Seeking?

Answer 25

It is the act of gate-keeping and ensuring claims on fixed supplies of factors of production to capture economic rent.

Question 26

What is a negative consequence of rent-seeking?

Answer 26

It creates a deadweight loss for society because resources are spent on capturing existing value rather than increasing output. It results in artificial scarcity.