Relationship between AR and MR under Different Markets

How average revenue and marginal revenue behave depends entirely on the market structure in which the firm sells — the link back to the Market Structures chapter. Two cases matter for a Business Economics student.

Under perfect competition, a single firm is so small relative to the whole market that it cannot influence price; it accepts the ruling market price and can sell any quantity at that same price. Because price never changes as the firm sells more,

so the AR curve and the MR curve are the same horizontal straight line. Every extra unit adds exactly the price to total revenue, so marginal revenue equals average revenue at all output levels.

Under imperfect competition (monopoly, monopolistic competition, oligopoly), the firm faces a downward-sloping demand curve: to sell more it must lower the price, and the lower price applies to all units, not just the last one. As a result:

• Average revenue (the price) falls as output rises, so the AR curve slopes downward.
• Marginal revenue falls faster than average revenue, so the MR curve lies below the AR curve and is twice as steep for a straight-line demand curve.
• Marginal revenue can even become negative once the price cut on all units outweighs the gain from the extra unit sold, though total revenue is still positive.

For any straight-line (linear) demand curve $AR = a - bQ$, it can be shown that $MR = a - 2bQ$ — same intercept on the price axis, double the slope. The three key relationships to remember are: (i) when AR is constant, MR = AR; (ii) when AR falls, MR < AR; (iii) MR falls at twice the rate of AR for a linear demand curve.

The two market cases can be compared side by side: