Question

a) If a firm makes zero economic profit, it will exit the market in the long run. Do you agree? Explain. (7 marks)
b) What makes a firm become a natural monopolist, and how does it become a barrier to entry of new firms? Explain. (8 marks)

Answer 1

a) Economic profit play a very important role in perfect competition .The existence of economic profits generally attract new firms in the industry in the long run Firms continue to enter until economic profits fall to zero.As new firms enter supply curve shifts to the right , In such a condition price will fall and as a result profit will fall.Firms will leave the industry when there is economic losses.

b)A natural monopoly is a monopoly that comes into existence when the cost of start -up is very high or there is large economies of scale of conducting business in the particular industry.A company with a natural monopoly may be the sole provider of a product or service in the industry.This causes barrier to entry of new firms because only one firm supplies the entire market . If a new firm tries to enter it will have disadvantage of cost.