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CA Foundation · Business Economics · Price Determination in Different Markets

In a perfectly competitive market, the long-run equilibrium is characterized by each firm earning normal profit where price equals average cost. Under this condition, which statement accurately describes the relationship between price, marginal cost, and average cost?

In long-run perfect competition equilibrium, price equals both marginal cost and average cost (P = MC = AC). This equality ensures firms earn only normal profits with no incentive for entry or exit, representing the industry's stable equilibrium state.

  1. AP > MC and P > AC, allowing continued market entry
  2. BP = MC = AC, ensuring no firm has incentive to exit or for new firms to enterCorrect
  3. CP = MC but P < AC, causing gradual firm exit until supply contracts
  4. DP < MC and P < AC, indicating the industry is in adjustment toward equilibrium

Explanation

At long-run competitive equilibrium, three conditions hold simultaneously: (1) P = MC (profit-maximizing condition using MR = MC where MR = P), (2) P = AC (zero economic profit condition), therefore (3) MC = AC. This is the only stable position where no firm wishes to enter or exit. If P > AC, positive profits attract entrants; if P < AC, losses cause exits. Option 2 correctly identifies all three equalities, making it the only accurate statement.

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