Week 10 — Lecture Outline · Perfect Competition

Course: Principles of Microeconomics (ECON 1) · Silver Oak University (fictional sample) · Prof. Kessler
Objective 6 — Perfect competition & monopoly (P = MC, MR = MC, shutdown, market power) · SLO A & B
Meeting pattern: two 75-min sessions (≈150 min). Segment minutes below total ~150 — scale to your room.

The deck (E), the tutorial (C), and the workshop (P) all teach from this outline. Every number here is pre-computed and independently verified (see the verified box in §4 and §5).

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Week at a glance

Big question	If a firm can't control the price it receives, how does it decide how much to make — and when is it better to shut down than keep losing money?
By week's end students can	(1) explain price taker & why P = MR in PC; (2) find profit-maximizing Q where P = MC on the rising arm; (3) compute profit/loss as (P − ATC) × Q; (4) apply the shutdown rule (P vs. min AVC); (5) explain long-run entry/exit → zero economic profit.
Key vocabulary	price taker, total revenue, marginal revenue, P = MR, P = MC, profit = (P − ATC) × Q, AVC, min AVC, shutdown rule, short-run supply curve, long-run equilibrium, zero economic profit, entry/exit
Materials	whiteboard; Week-10 readings/links; the W9 cost schedule (FC=60); a spreadsheet for the workshop; an approved chatbot
Timing note	8 segments ≈ 150 min across two sessions. Trim Segment 7 (long-run) if short on time.

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Segment 1 — HOOK: "Why can't the wheat farmer charge more?" (10 min)

Open with the scenario: "You run one of thousands of identical wheat farms. The market price of wheat today is $40/bushel. Can you charge $42?" Answer: no — buyers will go to the next farm. "Can you force it lower to undercut rivals?" Also no — you'd lose revenue for no gain. The farmer is a price taker: the market sets the price, and the firm takes it.

Why does this matter? Because it's the cleanest model of a market that works — no market power, no strategy games, just the intersection of cost and revenue. Call it the competitive benchmark: we'll measure everything else (monopoly, oligopoly) against what happens when competition is perfect.

Four traits of perfect competition (preview for the class): many firms, identical product, price takers, free entry/exit.

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Segment 2 — PLAIN-LANGUAGE IDEA: P = MR for a price taker (15 min)

In perfect competition, the firm's demand curve is a horizontal line at the market price — it can sell all it wants at that price, nothing above. That means:
- Total revenue = P × Q (price doesn't change as Q changes).
- Marginal revenue = P — each extra unit sold adds exactly P to revenue, no more, no less.

So P = MR is the defining feature of the perfectly competitive firm. Write it large; compare it to the monopolist (coming in Week 11) where the firm must lower price to sell more, so MR < P.

Name the trap immediately: P = MR (perfect competition) ≠ MR = MC (the output rule that applies to ALL firms including monopolists). We're doing P = MC here only because P = MR in this market structure. In Week 11, MR < P, and the same MR = MC rule gives a different answer.

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Segment 3 — THE OUTPUT RULE: produce where P = MC (on the rising arm) (18 min)

The profit-maximizing logic for any firm: produce an extra unit if the revenue it adds (MR) exceeds the cost it adds (MC); stop when MR = MC. In perfect competition, MR = P, so the rule is:

Produce where P = MC — but on the RISING arm of the MC curve.

Why the rising arm? MC is U-shaped. On the falling arm, increasing output raises profit further; you haven't hit the optimum yet. The right answer is always on the rising arm, where MC is climbing to meet P from below.

Worked example (board): show the MC sequence for the W9 cost table: MC at Q1=40, Q2=30, Q3=20, Q4=30, Q5=40, Q6=50. At P=40: find Q where P=MC on the rising arm. Going down the MC column — Q3's MC=20 < 40 (rising begins at Q4), Q4's MC=30 < 40, Q5's MC=40 = P=40 → Q=5. Not Q=1 (MC=40 on the FALLING arm) — the falling-arm trap is common; always pick the rising-arm match.

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Segment 4 — WORKED EXAMPLE: profit, loss, and the rectangle (25 min)

✅ VERIFIED NUMBERS (pre-computed; do not recompute live — FC=60, VC per W9 schedule)

Q	VC	TC	AVC	ATC	MC
1	40	100	40.00	100.00	40
2	70	130	35.00	65.00	30
3	90	150	30.00	50.00	20
4	120	180	30.00	45.00	30
5	160	220	32.00	44.00	40
6	210	270	35.00	45.00	50

Min AVC = 30 at Q=3 (the shutdown price). Min ATC = 44 at Q=5 (the long-run break-even price).

Case 1 — P = 40:
- Output rule: P = MC on the rising arm → Q = 5 (MC=40 at Q5).
- TR = 40 × 5 = 200.
- TC = 220 (from table).
- Profit = TR − TC = 200 − 220 = −20 (a loss of $20).
- Equivalently: profit = (P − ATC) × Q = (40 − 44) × 5 = −4 × 5 = −20. ✓
- The profit rectangle: P (=40) < ATC (=44) → the rectangle sits BELOW the price line → it's a loss, not a profit. Draw it: height = ATC − P = 4; base = Q = 5; area = 20 = the loss.

Case 2 — P = 50:
- P = MC on rising arm → Q = 6 (MC=50 at Q6).
- TR = 50 × 6 = 300.
- TC = 270.
- Profit = 300 − 270 = +30. Equivalently: (50 − 45) × 6 = 5 × 6 = 30. ✓
- The rectangle sits ABOVE the price line → profit. Height = P − ATC = 5; base = 6; area = 30. ✓

Tell students to draw both cases: the profit rectangle is the single most tested graph in this week.

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Segment 5 — THE SHUTDOWN RULE (20 min)

The key question: if the firm is losing money (Case 1), should it produce at all?

The logic: in the short run, fixed costs are sunk — you pay them whether you produce or not. The relevant question is: does producing cover the variable costs (the costs that go away if you shut down)? If P ≥ AVC at the chosen Q, then revenue covers all variable costs and contributes something toward fixed costs — operating is better than shutting down. If P < AVC, every unit sold loses money on top of the fixed costs you'd pay anyway → shut down.

The shutdown rule (short run):
- If P ≥ min AVC → operate (even at a loss, as long as revenue covers variable costs).
- If P < min AVC → shut down (loss < FC only when producing; stop producing to limit losses to FC).

Applied to Case 1 (P=40): min AVC = 30 (at Q=3). P=40 > 30 → operate. The firm loses $20, but its FC=60 — if it shuts down it loses $60; operating limits the damage to $20. ✓

The shutdown price = min AVC = 30. If P fell to $28, the firm would shut down.

Shutdown vs. exit: shutdown is a short-run decision (firm stays in the market but produces Q=0 this period); exit is a long-run decision (firm permanently leaves the market). Conflating these is the #1 student error on this topic.

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Segment 6 — LONG-RUN EQUILIBRIUM: entry, exit & zero profit (18 min)

What happens over time if P=50 gives profit=+30?

• Positive profit → entry. New firms enter, market supply increases, market price falls.
• Process continues until P = min ATC → zero economic profit → no further entry.
• Long-run equilibrium: P = min ATC = 44 (for this cost structure). Every firm produces at minimum ATC — the most efficient scale. Economic profit = 0.

What if P < min ATC (losses)? Firms exit, supply falls, price rises back to min ATC. The competitive market is self-correcting.

Zero economic profit does not mean the firm is "breaking even" in the accounting sense. Economic profit includes opportunity costs (the owner's best alternative use of their time and capital). Zero economic profit means the firm is doing as well as it could anywhere else — the firm is profitable in the accounting sense; it just earns a normal return, not an excess return.

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Segment 7 — TECHNOLOGY WORKFLOW + AI-CRITIQUE (12 min)

Spreadsheet demo: open a blank spreadsheet, type the cost schedule, add a column for MC, AVC, ATC, and profit at P=40. Show how the P=MC rule pops out of reading the table. Plot ATC and AVC in a line chart; mark min AVC.

AI-critique moment: ask an approved chatbot to find the profit-maximizing Q and profit at P=40 using the W9 cost table. Common AI errors to watch for:
1. Picking Q=1 (MC=40 on the FALLING arm) instead of Q=5 (rising arm).
2. Using the MR=MC monopoly framing and getting confused (it's P=MC here because P=MR).
3. Computing TC incorrectly or using only VC instead of TC.
4. Applying the shutdown rule to ATC instead of AVC.

Have the class catch the error and state the correct reasoning.

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Segment 8 — CALLBACKS, TEASE & THE WEEK'S WORK (12 min)

• Callback: the P = MC rule follows directly from last week's MC curve — the cost analysis wasn't just prep work, it's the engine of the output decision.
• Positive vs. normative check: "perfectly competitive markets are efficient" — positive result (a model prediction, testable in principle). "Markets should be perfectly competitive" — normative.
• Tease next week: "What if there's only ONE seller? Next week: monopoly — where MR < P, the firm picks the point where MR = MC and then reads the price off the demand curve — a very different picture, and it creates deadweight loss."
• The week's work: Lecture Tutorial (price taker → P=MC → profit/loss → shutdown → long run), Practice (6 reps), Quiz 10, Discussion 10, Assignment 10, and Workshop 10 (the cost schedule end-to-end).

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Instructor FAQ — common stumbles

• "Why Q=5 and not Q=1 at P=40?" Both have MC=40, but Q=1 is on the FALLING arm of MC — at Q=1 you could increase output and reduce cost per unit further. Q=5 is on the RISING arm, the true profit-maximizing point.
• "If the firm is losing money, why not just shut down?" Short-run fixed costs are already paid. As long as P ≥ AVC, producing covers variable costs and contributes toward fixed costs — limiting the loss compared to shutting down (which still incurs FC).
• "P = MC vs. MR = MC?" They're the SAME rule. In perfect competition MR = P, so P = MC. In monopoly MR ≠ P. Next week you'll see why distinguishing them matters.
• "Zero profit — is that bad?" No — zero economic profit means the firm is earning a normal (competitive) return on all its resources, including the opportunity cost of the owner's time and capital. It's a good outcome for resource allocation.
• "Shutdown vs. exit?" Shutdown = short-run (produce zero, stay ready to restart). Exit = long-run (leave the market permanently). Sunk costs are irrelevant to the long-run exit decision.