Perfect Competition: Demand Curve

2 years ago
Atiqur Rahman
6 minutes

Demand Curve Facing a Perfect Competitive Firm

The demand curve of any firm shows the maximum price that consumers are willing to pay for different levels of quantity. Under perfect competition, the firm’s demand curve is perfectly elastic- a horizontal line parallels to the quantity axis.

The market demand curve, on the other hand, is conventionally downward sloping. To understand this distinction, it is essential to understand the difference between the market demand curve and the firm’s demand curve.

A firm’s demand curve gives the relationship between the ‘demand for the output of that particular firm’ and the ‘market price’. The market demand curve gives the relationship between the ‘total amount of industry output demanded’ and the ‘market price’.

The market demand curve is influenced by consumer behaviour, but the firm’s demand curve is influenced by consumer behaviour as well as other firms’ decisions. The firm’s demand curve is flat because every firm believes that it will be unable to sell anything at a price higher than the market price.

Moreover, if a firm charges a price lower than the market price, then the firm would get the entire market demand and would soon be ‘sold out’. After this, each of the other firms would be able to sell.

Further, the firm can sell any amount of the homogenous product at the ongoing market price. The firms in a perfectly competitive market are, thus, price takers. The demand curve facing a competitive firm will be given by a horizontal line facing the quantity axis as the firms are price takers, and prices will not change for change in output level.

To sum up, the ‘market price’ is determined by the interaction of the market demand and supply curves and is taken to be given for a single firm. This is because each firm is a small part of the industry, and its output decisions have a negligible effect on the ‘market price’.

Figure1

The above figures show the industry and firm’s demand curve for a perfectly competitive market. In Figure (a), DD represents the industry demand curve. It is downward sloping as the consumers will buy more output at a lower price.

The intersection of the industry demand curve and the market supply curve yields the equilibrium market price as P* and the equilibrium quantity sold as Q*, which represents the total quantity produced by all the firms taken together.

Figure (b) shows the demand curve faced by a single perfectly competitive firm. It is a horizontal line at P* facing the quantity axis, implying that it can sell any additional unit of output without lowering the price.

As a result, when the firm sells an additional unit of output the total revenue (TR) rises by a fixed amount which is equal to the price of the product. Therefore, the marginal revenue (MR) and average revenue (AR) are equal to the price of the product.

The above figures illustrate how the intersection of market demand and supply curves of the industry determines the market price, which is taken as given by the firms. It is summarized in the table below:

TOTAL REVENUEAVERAGE REVENUEMARGINAL REVENUE
  TR = P*× QAR = 𝑇𝑅/𝑄 = 𝑃∗×𝑄 / 𝑄 = P*MR = 𝜕𝑇𝑅 / 𝜕𝑄 = P*

Read More- Microeconomics

  1. Microeconomics: Definition, Meaning and Scope
  2. Methods of Analysis in Economics
  3. Problem of Choice & Production Possibility Curve
  4. Concept of Market & Market Mechanism in Economics
  5. Concept of Demand and Supply in Economics
  6. Concept of Equilibrium & Dis-equilibrium in Economics
  7. Cardinal Utility Theory: Concept, Assumptions, Equilibrium & Drawbacks
  8. Ordinal Utility Theory: Meaning & Assumptions
  9. Indifference Curve: Concept, Properties & Shapes
  10. Budget Line: Concept & Explanation
  11. Consumer Equilibrium: Ordinal Approach, Income & Price Consumption Curve
  12. Applications of Indifference Curve
  13. Measuring Effects of Income & Excise Taxes and Income & Excise Subsidies
  14. Normal Goods: Income & Substitution Effects
  15. Inferior Goods: Income & Substitution Effects
  16. Giffen Paradox or Giffen Goods: Income & Substitution Effects
  17. Concept of Elasticity: Demand & Supply
  18. Demand Elasticity: Price Elasticity, Income Elasticity & Cross Elasticity
  19. Determinants of Price Elasticity of Demand
  20. Measuring Price Elasticity of Demand
  21. Price Elasticity of Supply and Its Determinants
  22. Revealed Preference Theory of Samuelson: Concept, Assumptions & Explanation
  23. Hicks’s Revision of Demand Theory
  24. Choice Involving Risk and Uncertainty
  25. Inter Temporal Choice: Budget Constraint & Consumer Preferences
  26. Theories in Demand Analysis
  27. Elementary Theory of Price Determination: Demand, Supply & Equilibrium Price
  28. Cobweb Model: Concept, Theorem and Lagged Adjustments in Interrelated Markets
  29. Production Function: Concept, Assumptions & Law of Diminishing Return
  30. Isoquant: Assumptions and Properties
  31. Isoquant Map and Economic Region of Production
  32. Elasticity of Technical Substitution
  33. Law of Returns to Scale
  34. Production Function and Returns to Scale
  35. Euler’s Theorem and Product Exhaustion Theorem
  36. Technical Progress (Production Function)
  37. Multi-Product Firm and Production Possibility Curve
  38. Concept of Production Function
  39. Cobb Douglas Production Function
  40. CES Production Function
  41. VES Production Function
  42. Translog Production Function
  43. Concepts of Costs: Private, Social, Explicit, Implicit and Opportunity
  44. Traditional Theory of Costs: Short Run
  45. Traditional Theory of Costs: Long Run
  46. Modern Theory Of Cost: Short-run and Long-run
  47. Modern Theory Of Cost: Short Run
  48. Modern Theory Of Cost: Long Run
  49. Empirical Evidences on the Shape of Cost Curves
  50. Derivation of Short-Run Average and Marginal Cost Curves From Total Cost Curves
  51. Cost Curves In The Long-Run: LRAC and LRMC
  52. Economies of Scope
  53. The Learning Curve
  54. Perfect Competition: Meaning and Assumptions
  55. Perfect Competition: Pricing and Output Decisions
  56. Perfect Competition: Demand Curve
  57. Perfect Competition Equilibrium: Short Run and Long Run
  58. Monopoly: Meaning, Characteristics and Equilibrium (Short-run & Long-run)
  59. Multi-Plant Monopoly
  60. Deadweight Loss in Monopoly
  61. Welfare Aspects of Monopoly
  62. Price Discrimination under Monopoly: Types, Degree and Equilibrium
  63. Monopolistic Competition: Concept, Characteristics and Criticism
  64. Excess Capacity: Concept and Explanation
  65. Difference Between Perfect Competition and Monopolistic Competition
  66. Oligopoly Market: Concept, Types and Characteristics
  67. Difference Between Oligopoly Market and Monopolistic Market
  68. Oligopoly: Collusive Models- Cartel & Price Leadership
  69. Oligopoly: Non-Collusive Models- Cournot, Stackelberg, Bertrand, Sweezy or Kinked Demand Curve
  70. Monopsony Market Structure
  71. Bilateral Monopoly Market Structure
  72. Workable Competition in Market: Meaning and Explanation
  73. Baumol’s Sales Revenue Maximization Model
  74. Williamson’s Model of Managerial Discretion
  75. Robin Marris Model of Managerial Enterprise
  76. Hall and Hitch Full Cost Pricing Theory
  77. Andrew’s Full Cost Pricing Theory
  78. Bain’s Model of Limit Pricing
  79. Sylos Labini’s Model of Limit Pricing
  80. Behavioural Theory of Cyert and March
  81. Game Theory: Concept, Application, and Example
  82. Prisoner’s Dilemma: Concept and Example

Share Your Thoughts