Q.Why does a firm under perfect competition earn only normal profit in the long run?
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Start your 14-day free trial to unlock the full solution →Perfect competition assumes free entry and exit of firms in the long run. Suppose, in the short run, existing firms are earning a super-normal profit because price exceeds average cost. This profit signals to firms outside the industry that entering is worthwhile. New firms enter, which raises total market supply; with demand unchanged, the increase in supply pushes the market price down.
Firms keep entering — and price keeps falling — as long as any super-normal profit remains. The process only stops when price has fallen exactly to the point where every existing firm earns just a normal profit, i.e. where price equals the minimum point of the long-run average-cost curve:
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