Price Takers

Definition

Price takers are economic agents, such as consumers or firms, who have no influence over the market price of a good or service. They must accept the prevailing market price as given and cannot set their own prices.

5 Must Know Facts For Your Next Test

1. Price takers have no control over the market price and must accept the prevailing price in the market.
2. Firms in perfect competition are price takers because they are small relative to the overall market and cannot influence the market price.
3. For price takers, the demand curve they face is perfectly elastic, meaning they can sell any quantity at the market price.
4. Price takers make production decisions to maximize profits, producing the quantity where marginal revenue (market price) equals marginal cost.
5. Consumers are also price takers, as they have no individual influence over the market price and must accept the price set by the market.

Review Questions

• Explain how the concept of price takers is related to the market structure of perfect competition.
  • In a perfectly competitive market, firms are price takers because they are small relative to the overall market and have no individual influence over the market price. The products are homogeneous, and there is free entry and exit, which ensures that no single firm can set its own price. As a result, firms in perfect competition must accept the prevailing market price and make production decisions to maximize profits based on that price.
• Describe how the demand curve faced by a price-taking firm differs from the demand curve faced by a firm with market power.
  • The demand curve faced by a price-taking firm is perfectly elastic, meaning the firm can sell any quantity at the market price. This is in contrast to a firm with market power, which faces a downward-sloping demand curve. The price-taking firm's marginal revenue is equal to the market price, while a firm with market power faces a declining marginal revenue curve as it increases output. This difference in the demand and marginal revenue curves is a key distinction between price takers and firms with market power.
• Analyze how a price-taking firm's profit-maximizing decision differs from the profit-maximizing decision of a firm with market power.
  • A price-taking firm maximizes profits by producing the quantity where its marginal cost equals the market price (which is also its marginal revenue). This is because the price-taking firm cannot influence the market price and must accept it as given. In contrast, a firm with market power maximizes profits by producing the quantity where its marginal cost equals its marginal revenue, which is less than the market price. The firm with market power can influence the market price by adjusting its own output, while the price-taking firm has no such ability and must simply respond to the prevailing market price.

Related terms

Perfect Competition: A market structure where there are many small buyers and sellers, the products are homogeneous, and there is free entry and exit. Firms in perfect competition are price takers.

Marginal Revenue: The additional revenue a firm earns from selling one more unit of a good or service. For price takers, marginal revenue is equal to the market price.

Profit Maximization: The goal of a firm to produce the quantity of output that will maximize its profits, given the market price as a price taker.