How is fixed cost relevant to a model of perfect competition?

Question

So i've been taking some econ classes and i'm having problems understanding how fixed costs are related to pure competition. Any help would be much appreciated!!

Answer 1

Fixed costs are things like rent, insurance etc. In the perfect competition model, if everyone has the same fixed costs then the companies that thrive are the ones that are better at the business they are in. Meaning the management is better at running the business.

A good analogy is NASCAR. All cars have to meet the same standards. So why does one racing team win over another? Better management.

Answer 2

The proofs I have seen that show Pareto optimal conditions are achieved by perfect competition do not have either start up or fixed cost. But perfect competition is an idealized model that depends on many assumptions that do not apply to the real world including, that people have perfect knowledge, that markets are in equilibrium and that changes in production and consumption are continuous ( that is you can have 1/3 of a car). But Newtonian mechanics doesn't do a very good job describing reality either without a lot of additions, but that does not mean it is not useful. It just means you need to do reality checks when applying it to real world problems.

Answer 3

Fixed costs are relevant to the model of perfect competition as it shows on the model which price does the product go down to to reach shut down point.

Answer 4

I do not think it changes things in the long term, when firms are allowed to enter and exit the market. By "Things" I mean that market price/quantity is the socially optimal one.

In the short-term (when exit/entry is impossible or delayed), you might get over-production if more firms than necessary are in the market, or underproduction if there is less firms.

Adding a fixed costs to an industry will decrease output and increase price.