In the previous segment, market equilibrium was studied under the presumption that there is a fixed number of enterprises. In this section, we will study market equilibrium when enterprises can enter and exit the market place freely. Here, for lucidity, we presume that all the enterprises in the market are alike.
What is the inference of the entry and exit presumption? This presumption implies that in equilibrium, no enterprise earns a supernormal profit or sustains a loss by remaining in production; in other words, the equilibrium cost price will be equal to the minimum average cost of the enterprises.
Assume that, at the persuading market cost price, each enterprise is earning a supernormal profit. The possibility of earning supernormal profit will attract some novice enterprises. As novice enterprises enter the market, the supply curve tends to shift rightward. However, demand remains constant.
- This causes the market cost price to decrease.
- As prices decrease, supernormal profits are eventually obliterated.
- At this point, with all the enterprises in the market earning a normal profit, no more enterprises will have the motivation to enter.
- Likewise, if the enterprises are earning less than the normal profit at the persuading cost price, some enterprises will take an exit, which will lead to an increase in the cost price, and with the sufficient number of enterprises, the profits of each enterprise will rise to the degree of normal profit.
At this point, no more enterprises would want to leave, as they will be earning a normal profit here. Hence, with free entry and exit, each enterprise will earn a normal profit at the persuading market cost price.
This is a detailed and elucidated information about the concept of Market Equilibrium: Free Entry and Exit. To learn more, stay tuned to BYJU’S.