Accepting price It is the economic agent who, acting as buyer or seller, has to accept or take the price established by the perfect competition market. This occurs because in a perfectly competitive market, no buyer or seller has the influence to modify the market price.
In other words, the buyer or seller are price takers in perfect competition because regardless of the quantity they buy or produce, they cannot affect the market price. For that reason, they are forced to take the set price. As a consequence, the totality of all buyers and sellers in a market are those who define and establish the price.
Who is the price taker in a competitive market?
It is important to clarify that in any market there must be two participants, the applicants or buyers and the suppliers or sellers. When these players are competing in a perfectly competitive market or competitive market, they become price-accepting.
- Claimant price acceptor: It is the plaintiff or buyer whose actions and decisions in the market have no impact to vary the price established by supply and demand.
- Bidder accepting price: They are all production companies that offer goods and services in a competitive market. For this reason, none of its actions or decisions have the ability to change the price established by the market.
Now, a company in this type of competition cannot raise its prices. If you do, buyers stop buying from you since they can buy the same product with other companies that sell it in the market.
All this occurs because there are a large number of companies that produce identical goods. Therefore, the consumer easily changes from one company to another. That makes companies only act as price takers. Therefore, it is impossible to increase profits by setting a price different from the market equilibrium price.
How should a company act in a perfectly competitive market to increase its profits?
A company that competes in conditions of perfect competition, to increase its profits, can only be achieved by increasing the quantity of the product it sells. It is convenient for this company to increase its production and sales.
Indeed, to make this decision you must first consider that the marginal cost of increased production is not higher than the marginal revenue you receive from your sales.
- The marginal cost: The marginal cost (CMa) is the increase that is observed in the total cost (TC) when increasing one more unit of production. The marginal cost results from:
- Marginal revenue: Marginal revenue (MR) is the increase that occurs in total revenue by increasing the sale of an additional unit of the product. The IMa is obtained from:
Additionally, the entrepreneur must take into account that the marginal cost behaves in a decreasing or descending way in the first stages (with a low volume) of production. But it is increasing or ascending in the last stages (with a very large volume) of production.
The optimal production volume for a price-accepting company
Indeed, every company hopes to increase its profits and to achieve this it must produce efficiently. This means that a price-accepting company must reach its optimum production volume. The optimal volume of production is obtained at the point where cost and marginal revenue equalize.
For example, taking as reference the following graph that represents the production of a company that produces bread:
This bread-producing company faces an infinitely elastic demand. Therefore, the price does not change, only the quantity demanded changes. For this situation, in the graph we see that the marginal revenue of this company is $ 6.00 for a package of bread. This, because marginal income is the increase in total income when selling an additional package of bread. Thus, if the price of $ 6.00 is constant, the marginal revenue will always be $ 6.00.
The most important points to analyze are:
- The blue line: This line illustrated with a horizontal slope represents the infinitely elastic demand. Also, it represents the price of the package of bread and the company’s marginal revenue.
- The red line: This line represents the marginal cost of the company. This cost is first decreasing until the production of 4,000 packages of bread. Then it starts to increase and the more units are produced the higher the marginal cost.
- The yellow dot: This point identifies the optimal volume of production where both cost and marginal revenue equal $ 6.00. As a consequence, this company achieves its optimum production volume when it produces 5,000 packages of bread.
- Utilities area: The profit area can be identified where the marginal revenue line is above the marginal cost line, and where revenue is greater than cost.
- Loss area: The loss region is located where the marginal cost line is above the marginal revenue line. In this region the marginal cost is greater than the marginal revenue.
- The total cost: It is located in the region below the marginal cost line.
Finally, it is profitable for this firm to produce as long as marginal revenue is greater than or equal to marginal cost. This indicates that this company is profitable until 5,000 packages of bread are produced. If you exceed this level of production, the marginal cost becomes greater than the marginal revenue. This causes losses for the company.
As a conclusion, it can be said that in perfect competition the bidders and demanders are price takers. This, given that none of the market participants is able to influence the established price. As a consequence, both participants have to accept the market price to make their decisions.