Q.Compare the effect of shift in demand curve on the equilibrium when the number of firms in the market is fixed with the situation when entry-exit is permitted.

When the number of firms is fixed (short run), a rightward shift in demand raises both equilibrium price and quantity. Firms respond by increasing output along their given supply curves, but since no new firms can enter, the price rise is larger than it would be if entry were allowed.

When entry and exit are permitted (long run), the market supply curve is perfectly elastic at the minimum average cost. A rightward shift in demand initially raises price and profits, attracting new firms. Entry shifts supply rightward until price falls back to the minimum average cost. The final equilibrium has a higher quantity but the same price as before the shift.

| Scenario | Effect on Price | Effect on Quantity |

|----------|----------------|-------------------| …

The Core Idea: Market Equilibrium and Firm Flexibility

Think of a market as a balancing scale. On one side sits consumer demand — what people want to buy at various prices. On the other sits firm supply — what producers are willing to sell. The equilibrium price and quantity are where these two forces meet. But here's the twist: firms themselves are not fixed in number. Over time, they can enter or exit the market based on profits. This flexibility changes how the market responds to a shift in demand.

The question asks you to compare two scenarios: one where the number of firms is frozen (short-run or regulated), and another where firms can freely come and go (long-run competitive equilibrium). The difference boils down to how supply adjusts.

Scenario 1: Fixed Number of Firms

When the number of firms is fixed, the market supply curve is simply the horizontal sum of each firm's supply curve. Each firm's supply is determined by its marginal cost curve above the shutdown point. Since no new firms can enter, the total quantity supplied at any price is limited to what existing firms can produce.

Now imagine demand increases — say, due to a rise in consumer income. The demand curve shifts rightward. At the original equilibrium price, there is now excess demand: buyers want more than firms are willing to supply. Firms respond by raising prices. As price rises, each existing firm finds it profitable to produce more (moving up its marginal cost curve). The new equilibrium is reached at a higher price and higher quantity.

The adjustment is purely along the existing supply curve. The price rise is permanent in this scenario because no new competition enters to drive it back down.

Scenario 2: Free Entry and Exit

Now allow firms to enter or exit the market freely. This is the hallmark of a perfectly competitive market in the long run. Here, the key is that firms will enter if they see positive economic profits, and exit if they face losses. In long-run equilibrium, each firm earns zero economic profit, producing at the minimum point of its average cost curve. The market supply curve becomes perfectly elastic (horizontal) at that minimum average cost.

When demand increases, the initial effect is the same: price rises, existing firms increase output, and profits emerge. But now, those profits attract new firms. New firms enter the market, increasing total supply. This additional supply pushes the price back down. Entry continues until profits are squeezed to zero — which happens when price returns to the minimum average cost. The final outcome: quantity increases further (because more firms are now in the market), but price returns to its original level.

The Crucial Contrast

| Aspect | Fixed Number of Firms | Free Entry-Exit | …