Ch. 23: FIRM SUPPLY - Summary - Intermediate Microeconomics - Varian

Ch. 23: FIRM SUPPLY

 In this chapter we derive the supply curve of a competitive firm from its cost function using the model of profit maximization.

We first  describe the alternative market environments in which a firm has to operate. But in this chapter we concentrate on pure competitive market only.


23.1 Market Environments

A. Firms face two sorts of constraints



(1) Technological - summarized in cost function



(2) Market constraints - how will

consumers and
other firms
react to a given firm’s choice



B. Assumption: Pure/perfect competition



(1) Price takers - takes market prices as given,

i.e. outside of any particular firms control

Example - if many "relatively" small firms


Demand curve facing a competitive firm




C. Supply decision of competitive firm



(1) maxy py- c(y)





(2) first order condition: Price = MC

p = c’(y)



(3) second order condition: c’’(y)  0

i.e. only upward-sloping part of MC-curve matters



(4) check that it is profitable to operate at all

revenue > Variabel Costs

py > cv(y)



p > cv(y)/y

price > Average Variable Costs



D. Example

c(y) = 2y2 + 3

cv(y) + F



[ Supply: Si(p) = 0.25p ]





E. Producer’s Surplus (PS)



(1) PS is defined to be Revenue - Variabel costs

py - cv(y)



(2) Since cv(y) = area under MC-curve



(3) PS = area above MC-curve





F. Long run supply



(1) L= Long Run



(2) LAVC = LAC Why?



No costs are fixed in the long run

i.e.  All costs are variable in the long run



(3) Long Run Supply more elastic than Short Run Supply



Demand Supply



ED =  ES =

[ES,L > ES,S]