Editing Perfect competition (section)

== Normal profit ==
In a perfect market the sellers operate at zero [[economic surplus]]: sellers make a level of return on investment known as [[normal profits]].

''Normal'' profit is a component of (implicit) costs and not a component of business profit at all. It represents all the [[opportunity cost]], as the time that the owner spends running the firm could be spent on running a different firm. The enterprise component of normal profit is thus the profit that a business owner considers necessary to make running the business worth while: that is, it is comparable to the next best amount the entrepreneur could earn doing another job.<ref name="carbaurgh">Carbaugh, 2006. p. 84.</ref> Particularly if enterprise is not included as a [[factor of production]], it can also be viewed a return to capital for investors including the entrepreneur, equivalent to the return the capital owner could have expected (in a safe investment), plus compensation for risk.<ref name="lipsey">Lipsey, 1975. p. 217.</ref> In other words, the cost of normal profit varies both within and across industries; it is commensurate with the riskiness associated with each type of investment, as per the [[risk–return spectrum]].

In circumstances of perfect competition, only normal profits arise when the long run [[economic equilibrium]] is reached; there is no incentive for firms to either enter or leave the industry.<ref name=autogenerated1>Lipsey, 1975. pp. 285–59.</ref>

=== In competitive and contestable markets ===
[[File:Perfect competition in the short run (simple).svg|thumb|right|Only in the short run can a firm in a perfectly competitive market make an economic profit.]]
Economic profit does not occur in perfect competition in [[long run]] equilibrium; if it did, there would be an incentive for new firms to enter the industry, aided by a lack of [[barriers to entry]] until there was no longer any economic profit.<ref name="lipsey"/> As new firms enter the industry, they increase the supply of the product available in the market, and these new firms are forced to charge a lower price to entice consumers to buy the additional supply these new firms are supplying as the firms all compete for customers (See [[Monopoly profit|"Persistence" in the ''Monopoly Profit'' discussion]]).<ref name="Essentials">Chiller, 1991.</ref><ref name="MicroTheory">Mansfield, 1979.</ref><ref name="IntermediateMicro">LeRoy Miller, 1982.</ref><ref name="IndustrialOrg"/> Incumbent firms within the industry face losing their existing customers to the new firms entering the industry, and are therefore forced to lower their prices to match the lower prices set by the new firms. New firms will continue to enter the industry until the price of the product is lowered to the point that it is the same as the average cost of producing the product, and all of the economic profit disappears.<ref name="Essentials" /><ref name="MicroTheory" /> When this happens, economic agents outside of the industry find no advantage to forming new firms that enter into the industry, the supply of the product stops increasing, and the price charged for the product stabilizes, settling into an [[Economic equilibrium|equilibrium]].<ref name="Essentials" /><ref name="MicroTheory" /><ref name="IntermediateMicro" />

The same is likewise true of the [[long run]] equilibria of [[monopolistic competition|monopolistically competitive]] industries and, more generally, any market which is held to be [[contestable market|contestable]]. Normally, a firm that introduces a differentiated product can initially secure a ''temporary'' market power for a ''short while'' (See [[Monopoly profit|"Persistence" in ''Monopoly Profit'']]). At this stage, the initial price the consumer must pay for the product is high, and the demand for, as well as the [[Monopoly profit|availability of the product in the market]], will be limited. In the long run, however, when the profitability of the product is well established, and because there are few [[Monopoly profit|barriers to entry]],<ref name="Essentials" /><ref name="MicroTheory" /><ref name="IntermediateMicro" /> the number of firms that produce this product will increase until the available supply of the product eventually becomes relatively large, the price of the product shrinks down to the level of the average cost of producing the product. When this finally occurs, all [[monopoly profit]] associated with producing and selling the product disappears, and the initial monopoly turns into a competitive industry.<ref name="Essentials" /><ref name="MicroTheory" /><ref name="IntermediateMicro" /> In the case of contestable markets, the cycle is often ended with the departure of the former "hit and run" entrants to the market, returning the industry to its previous state, just with a lower price and no economic profit for the incumbent firms.

Profit can, however, occur in competitive and contestable markets in the short run, as firms jostle for market position. Once risk is accounted for, long-lasting economic profit in a competitive market is thus viewed as the result of constant cost-cutting and performance improvement ahead of industry competitors, allowing costs to be below the market-set price.

=== In non-competitive markets ===
[[File:Imperfect competition in the short run.svg|thumb|right|A monopolist can set a price in excess of costs, making an economic profit.  The above diagram shows a monopolist (only one firm in the market) that obtains a [[monopoly profit|(monopoly) economic profit]].  An oligopoly usually has economic profit also, but operates in a market with more than just one firm (they must ''share'' available demand at the market price). ]]
Economic profit is, however, much more prevalent in uncompetitive markets such as in a perfect [[monopoly]] or [[oligopoly]] situation. In these scenarios, individual firms have some element of market power: Though monopolists are constrained by [[Demand (economics)|consumer demand]], they are not price takers, but instead either price-setters or quantity setters. This allows the firm to set a price that is higher than that which would be found in a similar but more competitive industry, allowing them economic profit in both the long and short run.<ref name="Essentials" /><ref name="MicroTheory" />

The existence of economic profits depends on the prevalence of [[Barrier to entry|barriers to entry]]: these stop other firms from entering into the industry and sapping away profits,<ref name="IndustrialOrg">Tirole, 1988.</ref> as they would in a more competitive market. In cases where barriers are present, but more than one firm, firms can collude to limit production, thereby restricting supply in order to ensure that the price of the product remains high enough for all firms in the industry to achieve an economic profit.<ref name="Essentials" /><ref name="IndustrialOrg" /><ref name="EconDictionary">Black, 2003.</ref>

However, some economists, for instance [[Steve Keen]], a professor at the University of Western Sydney, argue that even an infinitesimal amount of market power can allow a firm to produce a profit and that the absence of economic profit in an industry, or even merely that some production occurs at a loss, in and of itself constitutes a barrier to entry.

In a single-goods case, a positive economic profit happens when the firm's average cost is less than the price of the product or service at the [[profit maximization|profit-maximizing]] output. The economic profit is equal to the quantity of output multiplied by the difference between the average cost and the price.

=== Government intervention ===
Often, governments will try to intervene in uncompetitive markets to make them more competitive. [[Competition law|Antitrust]] (US) or competition (elsewhere) laws were created to prevent powerful firms from using their economic power to artificially create the barriers to entry they need to protect their economic profits.<ref name="MicroTheory" /><ref name="IntermediateMicro" /><ref name="IndustrialOrg" /> This includes the use of [[predatory pricing]] toward smaller competitors.<ref name="Essentials" /><ref name="IndustrialOrg" /><ref name="EconDictionary"/> For example, in the United States, [[Microsoft Corporation]] was initially convicted of breaking Anti-Trust Law and engaging in anti-competitive behavior in order to form one such barrier in ''[[United States v. Microsoft]]''; after a successful appeal on technical grounds, Microsoft agreed to a settlement with the [[United States Department of Justice|Department of Justice]] in which they were faced with stringent oversight procedures and explicit requirements<ref name="MSCourtSettlement">[https://www.justice.gov/atr/cases/f200400/200457.pdf "United States of America, Plaintiff, v. Microsoft Corporation, Defendant", Final Judgement], Civil Action No. 98-1232, November 12, 2002.</ref> designed to prevent this predatory behaviour. With lower barriers, new firms can enter the market again, making the long run equilibrium more like that of a competitive industry, with no economic profit for firms.

[[File:Imperfect competition after regulation.svg|thumb|right|In a regulated industry, the government examines firms' marginal cost structure and allows them to charge a price that is no greater than this marginal cost. This does not necessarily ensure zero Economic profit for the firm, but eliminates a [[monopoly profit|"Pure Monopoly" Profit]].|222x222px]]

If a government feels it is impractical to have a competitive market&nbsp;– such as in the case of a [[natural monopoly]]&nbsp;– it will sometimes try to regulate the existing uncompetitive market by controlling the price firms charge for their product.<ref name="MicroTheory" /><ref name="IntermediateMicro" /> For example, the old [[AT&T Corporation|AT&T]] (regulated) monopoly, which existed before the courts [[United States v. AT&T (1982)|ordered its breakup]], had to get government approval to raise its prices. The government examined the monopoly's costs to determine whether the monopoly should be able raise its price, and could reject the monopoly's application for a higher price if the cost did not justify it. Although a regulated firm will not have an economic profit as large as it would in an unregulated situation, it can still make profits well above a competitive firm in a truly competitive market.<ref name="IntermediateMicro" />