In a market with free entry and exit, if the demand curve shifts to the left: Statements: 1. Firms will enter the market to capture the lower price. 2. The market price will temporarily fall below the minimum average cost. 3. The supply will increase until the price returns to the minimum average cost. Which of the statements given above is/are correct?

The correct option is 2 only Explanation The question pertains to the long-run adjustment mechanism in a perfectly competitive market characterized by free entry and exit. In the long-run equilibrium of such a market, the price ($P$) settles at the minimum point of the Average Cost ($AC$) curve, meaning firms earn zero economic profit. Statement-wise Analysis: - Statement 1 is Incorrect: A shift of the demand curve to the left indicates a decrease in demand. In the short run, this leads to a reduction in the market price. Since the market was originally in equilibrium at the minimum average cost, the new lower price will fall below the minimum average cost, causing firms to incur economic losses. - Statement 2 is Correct: Rational firms enter a market only when there are economic profits (Price > Average Cost). Since the price has fallen below the average cost, existing firms face losses. Consequently, firms will exit the market rather than enter it. - Statement 3 is Incorrect: As firms exit the market due to losses, the aggregate market supply decreases. This causes the supply curve to shift to the left. The reduction in supply drives the price back up. This process continues until the price returns to the minimum average cost. Therefore, supply decreases, it does not increase. Key Takeaway: In a market with free entry and exit, a decrease in demand leads to short-run losses and the exit of firms. This exit reduces supply, eventually restoring the price to the minimum average cost level in the long run.

In a market with free entry and exit, if… - NCERT Class 12 Economics MCQ

NCERT Class 12 Economics — Chapter 2: Market Equilibrium

mcqhard

In a market with free entry and exit, if the demand curve shifts to the left:

Statements:

Firms will enter the market to capture the lower price.
The market price will temporarily fall below the minimum average cost.
The supply will increase until the price returns to the minimum average cost.

Which of the statements given above is/are correct?

NCERT textbook question

From NCERT Introductory Microeconomics

Options

A1 and 3 only
B2 only
C1, 2 and 3
D1 only

Did you get this right?

Solution

The correct option is

2 only

Explanation

The question pertains to the long-run adjustment mechanism in a perfectly competitive market characterized by free entry and exit. In the long-run equilibrium of such a market, the price ($P$) settles at the minimum point of the Average Cost ($AC$) curve, meaning firms earn zero economic profit.

Statement-wise Analysis:

Statement 1 is Incorrect: A shift of the demand curve to the left indicates a decrease in demand. In the short run, this leads to a reduction in the market price. Since the market was originally in equilibrium at the minimum average cost, the new lower price will fall below the minimum average cost, causing firms to incur economic losses.
Statement 2 is Correct: Rational firms enter a market only when there are economic profits (Price > Average Cost). Since the price has fallen below the average cost, existing firms face losses. Consequently, firms will exit the market rather than enter it.
Statement 3 is Incorrect: As firms exit the market due to losses, the aggregate market supply decreases. This causes the supply curve to shift to the left. The reduction in supply drives the price back up. This process continues until the price returns to the minimum average cost. Therefore, supply decreases, it does not increase.

Key Takeaway:

In a market with free entry and exit, a decrease in demand leads to short-run losses and the exit of firms. This exit reduces supply, eventually restoring the price to the minimum average cost level in the long run.

Your note

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In a perfectly competitive market, if the market price is above the equilibrium price, there will be:

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What is the effect on equilibrium price if the demand for a good increases and the supply decreases simultaneously?

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