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Price Determination Under Perfect Competition. - Economics

Write short notes on Price determination under perfect competition.

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Solution

 Under perfect competition, the market price, or the equilibrium price, is determined in the industry. Individual firms have no influence on this price. In the industry, the price is determined by the intersection of the market supply and market demand curves. In other words, the price under perfect competition is set at the point where the market supply of the good is equal to the market demand for the good. The individual firms take the market price so determined as fixed and adjust their supply accordingly.

In the figure, part A depicts the infinitely elastic demand curve faced by an individual firm in a perfect competition market. Part B depicts how the market demand and market supply curves interact to determine the market price. The market price OP is determined by the intersection of the market (industry) demand curve DD and market (industry) supply curve SS. The market equilibrium is at point E, where OQx (amount of output) is supplied at the equilibrium market price OP. The price for the commodity is given to an individual firm and no single firm can influence the market price. The firm faces an infinitely elastic demand curve, which suggests that no matter how many units of output are supplied, the price will remain the same. Hence, we can conclude that under a perfect competition market, an individual firm is a price taker and not a price maker.

Concept: Meaning and Features of Market
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