How Is Equilibrium Price Determined When Number of Firms Is Fixed?
Market equilibrium with a fixed number of firms is a core concept in Economics and Commerce. It describes how prices and quantities are determined when the number of producers in a market cannot change. This topic is highly relevant for school and competitive exams and helps in understanding industry dynamics in real-world markets.
| Aspect | Market Equilibrium with Fixed Number of Firms | Market Equilibrium with Free Entry/Exit |
|---|---|---|
| Number of Firms | Constant (fixed) | Variable (firms can enter or exit) |
| Adjustment to Demand/Supply | Price and output change, firms do not change | Both price/output and number of firms adjust |
| Market Entry Barriers | Present (legal, cost, policy) | Absent or negligible |
| Example Markets | Regulated sectors, licensed professions | Agriculture, basic commodities |
Market Equilibrium Fixed Number of Firms: Concept
Market equilibrium with a fixed number of firms occurs when, at a certain price, the total quantity demanded by consumers equals the total quantity supplied by the existing firms. No new firms can enter or leave the industry. The market settles at an equilibrium price and quantity that matches these fixed supply capabilities to demand.
Diagrammatic Explanation of Market Equilibrium Fixed Number of Firms
The equilibrium is shown using supply and demand curves. The market supply curve is derived by horizontally adding the supply of all firms—which remains unchanged since firm count is fixed. The demand curve shows how much buyers want at each price. Equilibrium is where both curves meet, determining the market price and total output.
Adjustment Mechanism in Fixed Number of Firms Scenario
In this scenario, the number of firms does not change, even as market conditions shift. Instead, adjustments occur through price and output.
- If demand increases, price rises—existing firms produce more (if possible).
- If demand falls, price drops—firms produce less or may operate at a loss.
- Firms cannot enter, so excess profits may persist in the short run.
- Supply shifts (e.g., input cost change) move the supply curve, changing equilibrium price/quantity.
Comparison: Fixed Number vs Free Entry Markets
| Feature | Fixed Number of Firms | Free Entry/Exit |
|---|---|---|
| Long-run Profits | Can persist above or below normal | Normal profits only (new firms enter if profits exist) |
| Market Dynamics | Slower; more reliant on price change | More flexible due to entry/exit |
| Industry Output | Limited by existing firms | Can expand or shrink as firms move |
Real-Life Examples and Applications
- Electricity utilities regulated by government—few or one firm allowed.
- Licensed professions (law, medicine) with limited licenses or quotas.
- Taxi markets in some cities—permit caps restrict new firms.
- Telecom sectors where only authorized operators can supply services.
Such structures are common in regulated or capital-intensive industries, helping you see market equilibrium in action beyond standard textbook cases. Understanding these helps in exams and practical business policy discussions.
Major Features and Outcomes
- No new firms can enter even if profits exist.
- Price is main adjustment tool, not number of suppliers.
- Market may not always return to 'normal profit' situations.
- Relates to concepts like static market equilibrium, supply restriction, and allocative efficiency.
For students, these features highlight key differences between perfect competition and real-world regulated or closed markets.
Key Terms Related to Market Equilibrium Fixed Number of Firms
- Equilibrium Price and Quantity
- Market Demand and Supply Intersection
- Fixed Firm Supply Curve
- Price Adjustment
- Adjustment Mechanism
- Industry Output Stability
For deeper understanding, explore Price Determination Under Perfect Competition, Theory of Supply, and Law of Demand on Vedantu.
Summary
Market equilibrium with a fixed number of firms is where supply by existing firms balances demand at a specific price, as no new firms can enter. Price adjusts to clear the market. This topic helps students distinguish between ideal models and real business scenarios, aiding exam preparation and business analysis. For more, explore relevant topics on Vedantu.
FAQs on Market Equilibrium with a Fixed Number of Firms
1. What does market equilibrium with a fixed number of firms mean in Economics?
Market equilibrium with a fixed number of firms describes a market situation where the total quantity demanded by consumers equals the total quantity supplied by all existing producers at a specific price. The key condition is that the number of firms in the market is constant, meaning no new firms can enter to compete, and no existing firms can exit.
2. How is the equilibrium price determined when the number of firms is fixed?
The equilibrium price is determined at the point where the market demand curve intersects the market supply curve. Since the number of firms is fixed, the market supply curve is the horizontal summation of the individual supply curves of these existing firms. The price at this intersection is the only price where the amount consumers want to buy exactly matches the amount producers are willing to sell.
3. How does the market adjust to a shift in demand if new firms cannot enter?
When new firms cannot enter, the market adjusts to demand shifts primarily through price changes.
- Increase in Demand: This creates excess demand at the current price, causing the price to rise. Existing firms will increase their output to meet the higher price, leading to a new equilibrium at a higher price and quantity.
- Decrease in Demand: This creates excess supply, causing the price to fall. Existing firms will reduce their output, establishing a new equilibrium at a lower price and quantity.
4. What are some real-world examples of markets with a relatively fixed number of firms?
Markets with a fixed or limited number of firms often have high barriers to entry. Common examples include:
- Telecommunications: Government licenses restrict the number of service providers.
- Airlines: High capital costs and limited slots at airports can restrict new entrants on certain routes.
- Licensed Professions: Fields like medicine or law require specific licenses, which limits the number of practicing professionals.
- Electricity Utilities: These are often natural monopolies or are heavily regulated, limiting competition.
5. How is market equilibrium with a fixed number of firms shown on a diagram?
It is represented graphically using a standard supply and demand diagram. The x-axis represents quantity and the y-axis represents price. The market is in equilibrium at the intersection point of the downward-sloping market demand curve and the upward-sloping market supply curve. This single point determines both the equilibrium price (P*) and the equilibrium quantity (Q*).
6. What is the key difference between a firm's equilibrium and market equilibrium in this context?
The key difference lies in the scope:
- Firm's Equilibrium refers to the output level where an individual firm maximises its profit, which occurs where its Marginal Revenue (MR) equals its Marginal Cost (MC).
- Market Equilibrium refers to the state of the entire industry where total market demand equals total market supply.
7. Can firms in a market with a fixed number of firms earn supernormal profits in the long run?
Yes, unlike in perfect competition, firms in a market with a fixed number of firms can potentially earn supernormal profits (profits above the normal rate of return) even in the long run. This is because barriers to entry prevent new firms from entering the market to compete away these excess profits. The lack of new entrants means the market supply doesn't increase, and the price remains high.
8. How does the market adjustment process differ when new firms can enter versus when the number of firms is fixed?
The adjustment process is fundamentally different. In a market with a fixed number of firms, adjustments to changes (like an increase in demand) occur through price and quantity changes from existing firms. In contrast, in a market with free entry, the primary long-run adjustment mechanism is the entry or exit of firms, which shifts the market supply curve and drives the price back towards the minimum average cost, eliminating supernormal profits.
9. Why is the concept of a 'fixed number of firms' primarily a short-run phenomenon in perfectly competitive markets?
In microeconomic theory, the short run is defined as a period where at least one factor of production is fixed, and new firms cannot enter the industry. Therefore, a fixed number of firms is a characteristic of the short run. The defining feature of the long run in perfect competition is the free entry and exit of firms, which means the number of firms can change. Thus, the fixed-firm model applies to the short-run analysis of any market.
10. What causes the market supply curve to be less elastic when the number of firms is fixed?
The market supply curve is less elastic (less responsive to price changes) because the total output can only be increased if existing firms expand production. This expansion is limited by their current production capacity and rising marginal costs. In a market with free entry, supply is much more elastic in the long run because a price increase not only incentivises existing firms to produce more but also attracts new entrants, leading to a much larger overall increase in quantity supplied.
