Long-Run Equilibrium

Definition

Long-run equilibrium refers to the state in a market where firms have fully adjusted to changing conditions, and there is no incentive for new firms to enter or existing firms to exit the industry. At this point, the market has reached a stable, long-term balance between supply and demand.

5 Must Know Facts For Your Next Test

1. In the long-run equilibrium, firms earn only normal profit, as economic profits are driven to zero by the entry of new firms.
2. The long-run equilibrium price is determined by the intersection of the industry's long-run supply and demand curves.
3. At the long-run equilibrium, the firm's output price equals its minimum long-run average cost, and the firm produces at the output level where marginal cost equals price.
4. The long-run equilibrium is a stable, self-correcting state where there is no incentive for new firms to enter or existing firms to exit the industry.
5. The adjustment to long-run equilibrium occurs through the process of entry and exit, as firms respond to the presence of economic profits or losses.

Review Questions

• Explain how the concept of long-run equilibrium relates to the entry and exit decisions of firms in an industry.
  • In the long-run equilibrium, there is no economic profit or loss, and firms earn only normal profit. This means that there is no incentive for new firms to enter the industry or for existing firms to exit. The long-run equilibrium is a stable state where the industry has fully adjusted to changing market conditions, and the number of firms in the industry is at the optimal level to meet the market demand at the long-run equilibrium price.
• Describe how the long-run equilibrium is achieved in a monopolistically competitive market.
  • In a monopolistically competitive market, the long-run equilibrium is reached when firms have fully adjusted to the market conditions, and there is no further entry or exit of firms. At this point, the market price is equal to the firm's minimum long-run average cost, and the firm is producing at the output level where marginal cost equals price. The presence of economic profits in the short run leads to the entry of new firms, which drives down the market price and reduces the economic profits until they are driven to zero in the long-run equilibrium.
• Analyze how the concept of long-run equilibrium differs between a perfectly competitive market and a monopolistically competitive market.
  • In a perfectly competitive market, the long-run equilibrium is characterized by firms earning only normal profit, as any economic profits are quickly driven to zero by the free entry of new firms. In contrast, in a monopolistically competitive market, the long-run equilibrium is characterized by firms earning zero economic profit, but they still maintain some degree of market power and product differentiation, which allows them to charge a price above the minimum long-run average cost. This means that in a monopolistically competitive market, the long-run equilibrium price is higher, and the output level is lower, compared to a perfectly competitive market.

Related terms

Economic Profit: The amount of profit a firm earns above and beyond the normal profit required to keep the firm in business in the long run.

Normal Profit: The minimum level of profit a firm must earn to remain in business in the long run, covering all economic costs including opportunity costs.

Free Entry and Exit: The ability of firms to freely enter or exit an industry in the long run, without facing significant barriers.