Question

1,Firms operating in perfect competition will earn 0 economic profits over time. This means:

a,They can remain in business indefinitely, earning a normal rate of return for their industry

b,They will have to close down due lack of adequate cash flow to cover costs

c,They will pay no taxes

2.What is the most important reason that a firm operating in pure competition is unable to raise its price above that charged by other firms in the market?

a,Firms in pure competition cannot raise their prices above the market price because in pure competition economic profits are 0

b,If one firm raises its price, other firms will follow

c,Firms in pure competition cannot raise their price above the market price because their product is undifferentiated from other products in the market.

Answer 1

1,Firms operating in perfect competition will earn 0 economic profits over time. This means:

a,They can remain in business indefinitely, earning a normal rate of return for their industry

Explanation

Zero economic profit means that the firm is earning normal profit. For this purpose we need to differentiate between economic profit and accounting profit.

In in economic sense profit is total revenue less total cost. Where total cost consist of both explicit cost and opportunity cost, explicit cost are our day to day expenses like wage, electricity bill, expenses for raw material etc. Opportunity cost is the implicit cost or the benefits forgone, for example if the the entrepreneur would have worked elsewhere could get a salary, but here is not getting, building that is is used for office purpose could have been rented to someone else. This type of cost are not considered in accounting sense and are only considered in economic cost. So so when the prophet is 0 in economics sense that means the firm is earning a profit in accounting sense which is equal to opportunity cost. So they can remain in the business .

2.What is the most important reason that a firm operating in pure competition is unable to raise its price above that charged by other firms in the market?

c,Firms in pure competition cannot raise their price above the market price because their product is undifferentiated from other products in the market

Explanation

In a perfectly competitive market all of the firms are selling homogeneous product. If in such a market only one firm increases the price of its product then no one will buy from this firm because the same product can be obtained at earlier lower price from other firms. Hence if the product is not differentiated and the firm increases its price there will be no demand for the product of the firm. So show the can't increase the price above market price.