Answer to Question #70280 in Economics for mo

Question

explain using properly labelled diagrams why a perfectly competitive firm will earn only a normal profit in the long run

Answer 1

Economic profit = total revenue - total cost
Here cost is measured in the economic sense as opportunity cost. In perfect competition, they must always equal zero in the long run.
Suppose there are 2 industries in the economy, and that firms in Industry A are earning economic profits. Firms in Industry A are earning a return greater than the return available in Industry B. That means that firms in Industry B are earning less than they could in Industry A. Firms in Industry B are experiencing economic losses.
With easy entry and exit, some firms in Industry B will leave it and enter Industry A to earn the greater profits available there. As they do so, the supply curve in Industry B shifts to the left, increasing prices and profits there. As former Industry B firms enter Industry A, the supply curve in Industry A shifts to the right, lowering profits in A.
The process of firms leaving Industry B and entering A will continue until firms in both industries are earning zero economic profit. That suggests an important long-run result: a perfectly competitive firm will earn only a normal profit in the long run [1].


[1] Economics Principles (v. 2.0). https://2012books.lardbucket.org/books/economics-principles-v2.0/s12-03-perfect-competition-in-the-lon.html