Describe the different possible profit outcomes for a perfectly competitive firm in the short run versus the long run. Explain why they occur

Question

What will be an ideal response?

Answer 1

In the short run, a perfectly competitive firm can make an economic profit, zero economic profit or economic loss. A firm makes an economic profit when P > ATC. It makes zero economic profit (its owners earn a normal profit) when P=ATC. And incurs an economic loss when P < ATC. If firms are making an economic profit, new firms will enter and compete away the existing firms' economic profit until all firms make zero economic profit. At this point, no new firms will enter the market and a long-run equilibrium occurs. If firms are already making zero economic profit, no new firms will enter the market, and this condition continues into the long run. And, if some firms are incurring an economic loss, some will exit the industry. This exit decreases the supply and drives up the price, thereby allowing the remaining firms to make zero economic profit. So, in the long run, a perfectly competitive firm will only make zero economic profit.