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Chapter 8: Profit Maximization and Competitive Supply

CHAPTER 8
PROFIT MAXIMIZATION AND COMPETITIVE SUPPLY
TEACHING NOTES
This chapter begins by explaining what we mean by a competitive market and why it makes sense to assume that firms try to maximize profit. The chapter then covers the choice of optimal output in the short run, thereby revealing the underlying structure of short-run supply curves, the choice of output in the long run and long-run competitive equilibrium. Along the way, the concepts of producer surplus and economic rent are introduced, and the chapter ends with development of the long-run industry supply curve.
Section 8.1 identifies the three basic assumptions of perfect competition and section 8.2 discusses the assumption of profit maximization as the goal of the firm. Students often find some of these assumptions to be unrealistic and/or very restrictive, so it is important to acknowledge that the world is more complex, but remind them that our goal is prediction. Although the world does not work quite as simply as the model of perfect competition suggests, the model predicts quite well even when some of the assumptions hold loosely at best. To put perfect competition in perspective, it can be helpful to give a brief overview of monopoly, oligopoly, and monopolistic competition before or after presenting the assumptions of perfect competition. Restrict this discussion to identifying the number of firms in the industry, product differentiation, and barriers to entry and exit. This has the added benefit of stimulating student interest in future topics.
Section 8.3 derives the general result that any firm wanting to maximize profit should produce where marginal revenue is equal to marginal cost. It also identifies perfect competition as a special case where marginal revenue equals the market price because firms are price...

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