Chapter 14

Chapter 14 expands and adds on to previous theories and concepts in the previous chapter. The chapter focuses on the actions firms take in competitive markets. Competitive markets are markets in which there are many buyers and sellers trading identical products, making each buyer and seller to be a price taker and an increase in competition. The chapter also introduces two new kinds of revenue, average revenue and marginal revenue. Average revenue is the total revenue divided by the quantity sold. Marginal revenue is the change in total revenue from an additional unit sold. Firms also make short and long run decisions based on their state and the state of the market. The short run decision to shut down is the decision to not produce anything during a specific period due to market conditions. The long run decision is exiting the market. The difference between the two is that firms can avoid fixed costs in the long run, but not in the short run. The chapter also discusses sunk costs. These are costs that once the action is committed, the cost cannot be recovered. Using this term, it can be observed that since the short term solution of shutting down does not get rid of fixed costs, then those costs are sunken costs. Lastly, changes in demand have different effects over the time horizons. In the short run, an increase in demand leads to an increase in prices and profits, while a decrease in demand lowers prices and leads to losses. However, in the long run the number of firms adjusts to shift the market back to the zero-profit equilibrium.