FOR SOLVED PREVIOUS PAPERS OF INDIAN ECONOMIC SERVICE KINDLY CONTACT US ON OUR WHATSAPP NUMBER 9009368238
FOR SOLVED PREVIOUS PAPERS OF ISS KINDLY CONTACT US ON OUR WHATSAPP NUMBER 9009368238
FOR BOOK CATALOGUEÂ
CLICK ON WHATSAPP CATALOGUE LINKÂ https://wa.me/c/919009368238
Equilibrium of the Firm and Industry
Introduction
Equilibrium in economics refers to a state where demand equals supply, and there is no tendency for change. For firms and industries, equilibrium is essential to understand profit maximization, pricing, and long-run sustainability.
This blog explains:
✔ Firm equilibrium – When a firm maximizes profit.
✔ Industry equilibrium – When all firms in an industry are in equilibrium.
We analyze these under short-run and long-run conditions using graphs and mathematical models.
1. Equilibrium of the Firm
A firm is in equilibrium when it has no incentive to change its output or price, meaning it is maximizing profit or minimizing losses.
📌 Conditions for Firm Equilibrium
✔ Marginal Cost (MC) = Marginal Revenue (MR) → Profit maximization.
✔ MC must cut MR from below → Ensures equilibrium is stable.
🔹 Mathematical Representation MR=MCMR = MC dΠdQ=0(First-order condition for profit maximization)\frac{d\Pi}{dQ} = 0 \quad \text{(First-order condition for profit maximization)}
Where:
- Î \Pi = Profit
- QQ = Output
- MRMR = Marginal revenue
- MCMC = Marginal cost
📌 Short-Run Equilibrium of a Firm
- The firm can make supernormal profits, normal profits, or losses.
- It cannot adjust plant size but can adjust output.
📊 Diagram Explanation:
- X-axis: Output
- Y-axis: Cost and Revenue
- The firm is in equilibrium where MR = MC, and the gap between Total Revenue (TR) and Total Cost (TC) is maximum.
🔹 Possible Short-Run Outcomes:
✔ Supernormal Profit → If Price (P) > Average Cost (AC).
✔ Normal Profit → If P = AC.
✔ Loss → If P < AC.
📌 Long-Run Equilibrium of a Firm
- In the long run, firms can adjust all inputs, and new firms can enter or exit the industry.
- Perfect competition forces firms to make only normal profits.
📊 Diagram Explanation:
- In the long run, entry of new firms eliminates supernormal profits, shifting supply rightward.
- Equilibrium occurs where P = MC = AC, ensuring only normal profits.
2. Equilibrium of the Industry
An industry is in equilibrium when all firms within the industry are in equilibrium, and there is no tendency for firms to enter or exit.
📌 Conditions for Industry Equilibrium
✔ All firms in the industry are in long-run equilibrium.
✔ No firm has an incentive to enter or exit.
✔ Market demand = Market supply.
🔹 Mathematical Representation ∑Qs=∑Qd\sum Q_s = \sum Q_d
where total industry supply = total industry demand.
📌 Short-Run Industry Equilibrium
- Firms may earn supernormal profits, normal profits, or losses.
- Firms cannot exit immediately, so they continue operating if P > AVC.
📊 Diagram Explanation:
- Industry equilibrium price is determined by market demand and market supply curves.
- Individual firms take this price as given and produce accordingly.
📌 Long-Run Industry Equilibrium
- Supernormal profits attract new firms → Increased supply → Price falls.
- Losses drive firms out → Decreased supply → Price rises.
- The process continues until only normal profits exist.
📊 Diagram Explanation:
- Long-run supply curve is horizontal in perfect competition (firms are price takers).
- In monopolistic or oligopolistic markets, firms retain some market power.
3. Differences Between Firm and Industry Equilibrium
| Feature | Firm Equilibrium | Industry Equilibrium |
|---|---|---|
| Definition | When a firm maximizes profit (MR = MC) | When all firms in the industry are in equilibrium |
| Scope | Individual firm’s output and pricing | Market-wide pricing and total industry output |
| Market Conditions | Firm takes price as given (in perfect competition) | Industry sets market price based on demand-supply |
| Adjustment Mechanism | Firms adjust output to maximize profit | New firms enter/exit to ensure normal profits |
| Short-Run Outcome | Supernormal profits, normal profits, or losses | Market price determined but firms may make excess profits/losses |
| Long-Run Outcome | Only normal profit remains (P = MC = AC) | No incentive for new firms to enter or exit |
4. Real-World Applications of Firm and Industry Equilibrium
📌 1. Market Structure Analysis
✔ Perfect Competition → Firms are price takers, and long-run profits are zero.
✔ Monopoly & Oligopoly → Firms may retain supernormal profits due to entry barriers.
📌 2. Government Policy
✔ Taxes & Subsidies → Affect costs and equilibrium conditions.
✔ Regulation of monopolies → Ensures efficiency and fair pricing.
📌 3. Business Strategy
✔ Firms decide pricing and production levels based on equilibrium conditions.
✔ Entry/exit decisions depend on profitability in the long run.
5. Conclusion
✔ Firm equilibrium occurs when MR = MC, ensuring profit maximization.
✔ Industry equilibrium occurs when all firms in the market are in equilibrium, with no incentive for entry/exit.
✔ Short-run equilibrium allows for supernormal profits/losses, but in the long run, only normal profits remain (in competitive markets).