In a perfect market, entry and exit of firms play a crucial role in influencing the equilibrium position from the short run to the long run. Here's how it works:
1. **Short Run Equilibrium:**
- In the short run, firms can earn economic profits or losses based on demand and supply conditions.
- If firms in the industry are making profits, new firms may enter the market to take advantage of the situation.
- As more firms enter, supply increases, leading to a decrease in price and a reduction in profits for all firms.
- On the other hand, if firms are facing losses, some may exit the market to avoid further losses.
2. **Long Run Equilibrium:**
- In the long run, firms have time to adjust their production levels, and new firms can enter or existing firms can exit the market.
- If firms are making profits in the short run, this attracts more firms to enter the market, increasing supply.
- As supply increases, prices decrease until firms are making normal profits, and the market reaches equilibrium.
- Conversely, if firms are incurring losses in the short run, some firms will exit the market, reducing supply and allowing prices to rise back to the equilibrium level.
3. **Implications:**
- The entry and exit of firms ensure that the market moves towards a long-run equilibrium where all firms earn normal profits.
- This process of firms entering or exiting based on profitability levels helps maintain a competitive market structure.
- It also ensures that resources are allocated efficiently, with firms producing at their lowest possible cost.
By understanding how entry and exit of firms impact the equilibrium position in both the short run and long run, we can see how market forces work to achieve a balance between supply and demand, leading to a more efficient allocation of resources in a perfect market.
