# Long-Run Supply in Perfect Competition

> AP Microeconomics · Unit 3: Production, Cost, and Perfect Competition
> Source: https://www.owlsprep.com/study/ap-microeconomics-u3-long-run-supply/

This module covers long-run industry supply curves for perfectly competitive markets, including constant-cost, increasing-cost, and decreasing-cost industries, long-run equilibrium conditions, and effects of entry and exit on market prices.

**Prerequisites:** [Short-run supply in perfect competition](https://www.owlsprep.com/study/ap-microeconomics-u3-short-run-supply/); [Profit maximization rule $MR=MC$](https://www.owlsprep.com/study/ap-microeconomics-u3-profit-maximization/); [Core assumptions of perfect competition](https://www.owlsprep.com/study/ap-microeconomics-u3-perfect-competition-assumptions/)

## Learning objectives

- Derive the long-run industry supply curve for different industry cost structures
- State and apply long-run equilibrium conditions for perfectly competitive markets
- Predict changes in long-run equilibrium price and quantity after permanent demand shifts
- Distinguish between firm-level and industry-level long-run supply outcomes

## What is Long-Run Industry Supply?

Long-run supply describes the relationship between market price and total quantity supplied by all firms in a perfectly competitive industry after all possible adjustments: firms can freely enter or exit the market, all inputs are variable, and the number of firms in the industry is not fixed.

> **warning**
>
> Not to be confused with macroeconomic long-run aggregate supply (also abbreviated LRAS); this topic refers to the long-run industry supply curve (LRSS) for microeconomics.

Unlike the short-run supply curve, which holds the number of firms fixed, long-run supply fully accounts for entry and exit that occurs when economic profits are non-zero, and reflects how input prices change as industry output expands or contracts. This topic appears in both multiple-choice and free-response sections of the AP Micro exam, often combined with short-run adjustment questions.

## Constant-Cost Industries

**Constant-Cost Industry** — An industry where input prices do not change as industry output expands or contracts, because key inputs are abundant and available at a constant per-unit price regardless of industry demand.

*Example:* Small-volume industries that use widely available commodity inputs like generic metal for paper clips.

When demand increases in a constant-cost industry, the short-run price rises above the original minimum average total cost ($\min ATC$), so existing firms earn positive economic profit. Positive profit attracts new entry, shifting the short-run market supply curve rightward. Since input prices do not change, $\min ATC$ remains constant for all firms. Entry continues until price falls back to the original $\min ATC$, where economic profit returns to zero.

The long-run industry supply curve for a constant-cost industry is horizontal at $P = \min ATC$, because any change in demand is fully accommodated by a change in the number of firms, with no change in long-run equilibrium price.

**Worked example:** The market for plain metal paper clips is perfectly competitive and a constant-cost industry. It is currently in long-run equilibrium at $P = \$0.50$ per box, with a total quantity of 10 million boxes sold. Each firm produces at $\min ATC = \$0.50$. Demand for paper clips increases permanently, so that 2 million more boxes are demanded at every price. What is the new long-run equilibrium price, and how does the number of firms change?

1. By definition, input prices do not change with industry output in a constant-cost industry, so $\min ATC$ for all firms remains $\$0.50$.
2. Long-run equilibrium in perfect competition requires zero economic profit, so price must always equal $\min ATC$.
3. Since $\min ATC$ has not changed, the new long-run equilibrium price is also unchanged at $\$0.50$ per box.
4. At $P = \$0.50$, the new quantity demanded is 12 million boxes, up from 10 million. Each firm still produces the same quantity at $\min ATC$, so the number of firms in the industry increases to meet the higher demand.

> **Exam tip:** If a question does not specify a cost structure but tells you input prices are unchanged when the industry expands, it is a constant-cost industry, and the long-run price after any demand shift will equal the original long-run price.

## Increasing-Cost Industries

**Increasing-Cost Industry** — An industry where input prices rise as industry output expands because key inputs are scarce. This is the most common type of perfectly competitive industry.

*Example:* Local service industries that rely on scarce high-traffic retail space, like coffee shops in a city.

When demand increases, short-run price rises, firms earn positive profit, and new firms enter. New entry increases demand for scarce inputs, bidding up input prices for all firms. Higher input prices shift every firm's ATC curve upward, resulting in a higher new $\min ATC$. Entry stops when price rises to equal the new higher $\min ATC$, so the new long-run equilibrium price is higher than the original.

This positive relationship between industry output and long-run equilibrium price gives the long-run industry supply curve an upward slope. For a permanent decrease in demand, the opposite occurs: exit reduces output, lower input demand reduces input prices, $\min ATC$ falls, and the new long-run price is lower than the original.

**Worked example:** The craft coffee shop industry in a mid-sized city is perfectly competitive and increasing-cost. It is currently in long-run equilibrium at $P = \$4$ per 12oz latte, where $\min ATC = \$4$. A recession causes a permanent decrease in demand for lattes. What happens to the long-run equilibrium price and the ATC curve for remaining coffee shops?

1. Lower demand reduces the short-run market price below $\$4$, so existing firms earn negative economic profit.
2. Negative profit encourages unprofitable firms to exit the industry in the long run, reducing total industry output.
3. Since this is an increasing-cost industry, lower industry output reduces demand for the scarce input of high-traffic retail storefronts, so rent (the key input price) falls.
4. Lower input prices shift the ATC curve downward for all remaining coffee shops, so the new $\min ATC$ is lower than the original $\$4$.
5. Long-run equilibrium requires $P = \min ATC$, so the new long-run equilibrium price is lower than the original $\$4$, confirming the upward slope of the long-run supply curve.

> **Exam tip:** On FRQ graph questions, your upward-sloping long-run supply curve must pass through both the original and new long-run equilibrium points after a demand shift to earn full credit; do not draw it arbitrarily.

## Decreasing-Cost Industries

**Decreasing-Cost Industry** — A rare industry type where input prices fall as industry output expands, typically because input producers experience economies of scale as their own output increases.

*Example:* Consumer electronics industries that rely on mass-produced components like lithium batteries.

When demand for the final good increases, entry of new firms increases demand for inputs. Input producers can scale up their production and exploit their own economies of scale to reduce per-unit input costs, so input prices fall for all firms in the final good industry. Lower input prices shift every final good firm's ATC curve downward, leading to a lower new $\min ATC$.

The new long-run equilibrium price equals the lower $\min ATC$, so higher industry output leads to lower long-run price, giving the long-run industry supply curve a downward slope.

> **warning**
>
> Do not confuse decreasing-cost industries with economies of scale for a single firm. Decreasing-cost is an industry-level effect caused by falling input prices, not the cost structure of a single firm in the industry.

**Worked example:** The portable solar charger industry is perfectly competitive and decreasing-cost. It is currently in long-run equilibrium at $P = \$25$ per charger. Demand for portable solar chargers increases permanently due to more outdoor recreation. Will the new long-run equilibrium price be higher, lower, or equal to $\$25$? Explain how entry leads to this outcome.

1. In the short run, higher demand raises the market price above $\$25$, so existing firms earn positive economic profit.
2. Positive profit attracts new firms to enter the industry, increasing total industry output of solar chargers. This in turn increases demand for key inputs: lithium batteries and photovoltaic solar cells.
3. Input producers for these components can expand production and exploit economies of scale, reducing per-unit input prices.
4. Lower input prices reduce the $\min ATC$ for all solar charger producers. Long-run equilibrium requires $P = \min ATC$, so the new long-run equilibrium price is lower than the original $\$25$.

> **Exam tip:** Decreasing-cost industries are rare on the AP exam, but always check for the clue that input prices fall as industry output expands to confirm the cost structure.

## Long-Run Equilibrium Conditions

Regardless of the industry cost structure, all perfectly competitive industries share the same three core conditions for long-run equilibrium:

1. All existing firms maximize profit, so $P = MR = MC$
2. No firm has incentive to enter or exit, which requires zero economic profit, so $P = \min ATC$
3. Total quantity supplied equals total quantity demanded in the market

$$P = MR = MC = \min(ATC)$$

This condition holds because any deviation from $P = \min ATC$ triggers entry or exit that pushes price back to this level. If $P > \min ATC$, positive profit attracts entry, increasing supply and pushing price down. If $P < \min ATC$, negative profit causes exit, reducing supply and pushing price up. Only when $P = \min ATC$ does entry/exit stop.

**Worked example:** A perfectly competitive firm in a constant-cost industry currently produces 100 units of output. The market price is $\$10$, the firm's marginal cost at 100 units is $\$10$, and the firm's average total cost at 100 units is $\$8$. Is the market in long-run equilibrium? If not, what will happen to the market price in the long run?

1. Check the equilibrium conditions: $P = MC = 10$, so the firm is already maximizing profit, but $P (\$10) > ATC (\$8)$, so the firm earns positive economic profit of $(10 - 8) \times 100 = \$200$.
2. Positive economic profit means new firms have an incentive to enter the market, so the market is not in long-run equilibrium.
3. Entry of new firms increases market supply, which pushes the market price down. In a constant-cost industry, $\min ATC$ is unchanged at $\$8$.
4. Price will continue to fall until $P = \min ATC = \$8$, so the new long-run equilibrium price is $\$8$.

> **Exam tip:** On FRQs that ask if a market is in long-run equilibrium, you must explicitly mention the zero-profit (no entry/exit) condition to earn full credit; forgetting this is a common point deduction.

## Common pitfalls

- **Wrong:** Drawing a horizontal long-run supply curve for any perfectly competitive industry, regardless of stated cost structure.
  - Why it fails: Students memorize the constant-cost shape from common examples and incorrectly generalize it to all industries.
  - Correct: Always first identify the industry's cost structure given in the question before drawing or calculating the new long-run price.
- **Wrong:** Confusing an individual firm's long-run supply curve with the industry's long-run supply curve.
  - Why it fails: Students mix up firm-level adjustments and market-level outcomes after entry/exit.
  - Correct: Label all curves clearly on your graph as 'firm LR supply' or 'industry LR supply'; remember the industry curve accounts for entry/exit while the firm's does not.
- **Wrong:** Claiming positive economic profit is possible in long-run equilibrium for any perfectly competitive industry.
  - Why it fails: Students confuse accounting profit with economic profit, and forget free entry eliminates all economic profit in the long run.
  - Correct: Always state that in long-run equilibrium, $P = \min ATC$, so economic profit is zero, regardless of the industry cost structure.
- **Wrong:** Shifting the firm's ATC curve when demand changes in a constant-cost industry.
  - Why it fails: Students assume any demand shift changes costs, but constant-cost means input prices do not change, so ATC stays fixed.
  - Correct: Only shift the firm's ATC curve if the question states the industry is increasing or decreasing cost, and entry/exit changes input prices.
- **Wrong:** Calling a firm with economies of scale a decreasing-cost industry.
  - Why it fails: Students confuse firm-level economies of scale with the industry-level definition of decreasing cost.
  - Correct: A decreasing-cost industry is defined by falling input prices when industry output expands, not a single firm's cost structure; always label concepts correctly.
- **Wrong:** Using the new short-run price after a demand shift as the long-run equilibrium price.
  - Why it fails: Students stop at the short-run outcome and forget entry/exit adjusts the price back to $\min ATC$.
  - Correct: Always explicitly distinguish between short-run and long-run outcomes in the question, and apply entry/exit to get the final long-run price.

## Cheatsheet

| Industry Type | LR Supply Curve Shape | Input Price Behavior | Long-run Price After Demand Increase |
| --- | --- | --- | --- |
| Constant-Cost | Horizontal | Unchanged as output expands | Unchanged, equal to original $\min ATC$ |
| Increasing-Cost | Upward Sloping | Rises as output expands | Higher than original $\min ATC$ |
| Decreasing-Cost | Downward Sloping | Falls as output expands | Lower than original $\min ATC$ |
| All Perfectly Competitive | N/A | N/A | Always equals current $\min ATC$, zero economic profit |

## What's next

Understanding long-run supply is critical for analyzing market outcomes and efficiency in perfectly competitive markets, and builds directly on your knowledge of short-run production, cost, and profit maximization. This concept is frequently tested in combination with consumer surplus, producer surplus, and deadweight loss analysis on AP Micro FRQs, and forms the foundation for comparing perfect competition to other market structures. The entry and exit dynamics you learned here explain why economic profit is driven to zero in the long run, a key result that distinguishes perfectly competitive markets from less competitive structures like monopoly.

- [Monopoly Market Structure](https://www.owlsprep.com/study/ap-microeconomics-u4-monopoly/)
- [Unit 3 Overview: Production, Cost, and Perfect Competition](https://www.owlsprep.com/study/ap-microeconomics-u3-overview/)
- [Efficiency and Perfect Competition](https://www.owlsprep.com/study/ap-microeconomics-u3-efficiency-and-perfect-competition/)

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