Explain why, when all adjustment have taken place, the perfectly competitive firm will operate at the minimum of its short-run and long-run average total cost curves and earn zero economic profit

Question

What will be an ideal response?

Answer 1

Because perfectly competitive firms are price takers, the only means they have to increase profits in the short run is by reducing their costs of production. As such, in the short run, the individual firm will do what it can to use its current scale of operation as efficiently as possible by operating at the minimum of its short-run average cost curve. This same incentive will also induce firms to exploit any economies of scale in production. So long as economies of scale exist, individual firms will expand their scale of production to lower their average costs relative to price and, in so doing, increase profits. However, the assumption of perfect information means that every firm will move to the minimum of the long-run average cost curve. In addition, entry or exit will continue until firms are earning zero economic profit and there is no more incentive for entry into or exit from the industry by individual firms.