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When New Firms Enter A Perfectly Competitive Market: 7 Things You Need to Know About

When New Firms Enter A Perfectly Competitive Market: 7 Things You Need to Know About

When new firms enter a perfectly competitive market, there are three possible outcomes for the market in general, and both consumers and businesses can be affected by these outcomes. 

The three outcomes are an increase in quantity supplied without an increase in price 

a decrease in quantity supplied without a decrease in price, and neither an increase nor decrease in quantity supplied with both no change in price 

and no change in quantity sold (a deadlock). These outcomes are explained below, along with examples from real life to illustrate each case. 

Market equilibrium in the short run

When new firms enter a perfectly competitive market, prices fall. 

If it were not for new entrants, when price is above equilibrium level Q*, quantity demanded would be lower than quantity supplied. 

In contrast, when entry occurs at price below equilibrium level Q*, quantity supplied would be lower than quantity demanded. 

This happens because at an output below equilibrium (Q*) suppliers will want to increase their output while suppliers at 

an output above equilibrium (Q*) will want to decrease their output in order to cover costs of production so that they can make profits.

Market equilibrium in the long run

When new firms enter a perfectly competitive market, producers can increase prices by an amount exactly equal to that which compensates for any loss in quantity sold. 

In other words, when there are more sellers in an industry, then prices will rise in order to meet supply with demand. 

Additionally, competition will force these price changes so that they cannot persist

they must be impermanent because all price increases will lead to economic losses (losses of sales) among producers.

Demand curve elasticity

The elasticity of demand refers to how responsive total revenue is to changes in quantity. 

In other words, if you change price by 10%, how much will total revenue change as a result? 

The more price-sensitive buyers are, the more elastic their demand curve is said to be.

A perfectly elastic demand curve has an infinite slope (horizontal line), meaning any price increase will lead to zero sales. 

On an inelastic demand curve, however, even big price drops won’t push down sales very much; it has a downward-sloping shape with finite slope. 

In between these two extremes are elastic curves with slopes that vary depending on factors like how expensive your product is 

and how many competitors offer similar products.

Impact on consumers

When a new firm enters an existing market, customers are no better off than before. 

This is because producers will charge whatever it costs to create their product, so consumers face no cost advantages from increased competition. 

The most important impact of entry into an existing market is not on price but on production quality. 

Consumers benefit when new entrants improve product quality or add new products to an existing good or service, making these goods more attractive to buy.

Impact on existing business.

When new firms enter an existing industry, they tend to cause all of their competitors to raise prices. 

This is because in equilibrium, each business charges price equal to marginal cost. 

The small increase in supply causes a proportionate decrease in demand - hence equilibrium price rises by exactly as much as supply increases. 

This represents a transfer of wealth from consumers to producers: more expensive goods will cause consumers 

(in aggregate) to spend less on those goods; producers are left with more money from which they can pay factors of production that had previously been unemployed in their industry (e.g., workers).

Impact on new firms entering the market.

The easy access to capital provided by venture capitalists makes new firms willing to try out new technologies in pursuit of profits.

As long as investors think there is some chance of making profits, they will provide capital. 

If society values innovations then it must also be willing to accept that unprofitable ventures may take place. 

Society will benefit if any activities are undertaken which add value to resources. 

Therefore, no matter how high R&D costs or how risky an investment, there is always going to be capital available 

because we have some expectation that future generations will be richer on average than we are now so it is worth their while investing some money today.


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