Average Revenue and Marginal Revenue
In a perfectly competitive market, a firm is considered a price taker, meaning it has no power to influence the market price.
Total Revenue (TR):
Total Revenue (TR) is calculated as:
- Formula: TR = Price (p) × Quantity (q)
As the price of a good remains constant, any increase in quantity sold results in a proportional increase in total revenue, illustrated by a straight-line upward-sloping TR curve.
Average Revenue (AR):
Average Revenue is defined as total revenue earned per unit of output sold, represented by:
Thus, for the perfectly competitive firm, Average Revenue is identical to the market price (p) because each unit is sold at the same price.
Marginal Revenue (MR):
Marginal Revenue is the additional revenue generated from selling one more unit of the good. It can be expressed mathematically as:
- Formula: MR = Change in TR / Change in q
For a perfectly competitive market, MR also equals the market price:
This equality signifies that increases in quantity sold do not change the price, confirming a firm's ability to sell any number of units at the market price.
Implications for Profit Maximization:
Understanding TR, AR, and MR is essential for determining profit maximization. Profit is maximized where:
Thus, the firm's output decision directly correlates with its revenue structure—the firm will continue to produce output until the cost of producing one more unit (MC) exceeds the revenue it generates from that unit (MR). This elucidation underscores the relationship between revenue types and a firm's operational strategies in achieving optimal profit within a perfectly competitive framework.