Long-Run Supply — AP Microeconomics Study Guide

For: AP Microeconomics candidates sitting AP Microeconomics.

Covers: Derivation of the long-run industry supply curve, constant-cost, increasing-cost, and decreasing-cost industries, long-run equilibrium conditions in perfect competition, and the effects of entry and exit on long-run market prices.

You should already know: Short-run supply curves in perfect competition, the profit maximization rule $MR=MC$, core assumptions of perfect competition.

A note on the practice questions: All worked questions in the "Practice Questions" section below are original problems written by us in the AP Microeconomics style for educational use. They are not reproductions of past College Board / Cambridge / IB papers and may differ in wording, numerical values, or context. Use them to practise the technique; cross-check with official mark schemes for grading conventions.

1. What Is Long-Run 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 have been made: firms can enter or exit the market, and all inputs are variable, so the number of firms in the industry is not fixed. It is typically denoted LRSS (long-run industry supply curve) or LRAS (not to be confused with the macroeconomic long-run aggregate supply curve). This topic is part of Unit 3, which makes up 20-30% of the AP Microeconomics exam weight; long-run supply itself accounts for roughly 10% of Unit 3 score, and appears in both multiple-choice (MCQ) and free-response (FRQ) sections, often combined with questions about short-run adjustments, entry/exit, and efficiency. Unlike the short-run supply curve, which holds the number of firms fixed, long-run supply fully accounts for all entry and exit that occurs when economic profits are non-zero, and reflects how input prices change as industry output expands or contracts.

2. Constant-Cost Industries

A constant-cost industry is an industry where input prices do not change when industry output expands or contracts, because inputs are abundant and can be purchased at the same price regardless of how much the industry demands. 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 firms to enter the market, which shifts the short-run market supply curve rightward. Since input prices do not change, $\min ATC$ for all firms stays the same. Entry continues until price falls back to the original $\min ATC$, where economic profit returns to zero. The result is that any change in demand is fully accommodated by a change in the number of firms, with no change in long-run equilibrium price. This gives the long-run industry supply curve a horizontal shape at $P=\min ATC$.

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, you automatically know it is a constant-cost industry, and the long-run price after any demand shift will equal the original long-run price.

3. Increasing-Cost Industries

An increasing-cost industry is the most common type of perfectly competitive industry, where input prices rise as industry output expands because key inputs are scarce. When demand increases, short-run price rises, firms earn positive profit, and new firms enter the market. The new entry increases demand for scarce inputs, which bids up input prices for all existing and new firms. Higher input prices shift every firm's ATC curve upward, so the new $\min ATC$ is higher than the original. Entry stops when price rises to equal the new higher $\min ATC$, so the new long-run equilibrium price is higher than the original price. This relationship (higher output = higher long-run price) gives the long-run industry supply curve an upward slope. For a permanent decrease in demand, the opposite occurs: exit reduces industry output, lower demand for inputs 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.

4. Decreasing-Cost Industries

A decreasing-cost industry is a rare industry type where input prices fall as industry output expands, usually because input producers experience economies of scale as their own demand increases. 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, so the new $\min ATC$ is lower than the original. 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.

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: 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.

5. Long-Run Equilibrium Condition

Regardless of the industry cost structure, all perfectly competitive industries share the same three conditions for long-run equilibrium. First, all existing firms must be maximizing profit, so $P=MC=MR$. Second, no firm has an incentive to enter or exit the market, which requires economic profit to be zero, so $P=\min ATC$. Third, quantity supplied equals quantity demanded in the overall market. Combining these gives the core equilibrium condition: $$P=MR=MC=\min (ATC)$$ This condition holds in the long run because any deviation triggers entry or exit that pushes price back to $\min ATC$. 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.

6. Common Pitfalls (and how to avoid them)

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

7. Practice Questions (AP Microeconomics Style)

Question 1 (Multiple Choice)

Which of the following correctly describes the long-run outcome after a permanent decrease in market demand for an increasing-cost perfectly competitive industry? A) Long-run supply is horizontal, so the long-run equilibrium price remains unchanged B) Long-run supply is upward sloping, so the new long-run equilibrium price is lower than the original equilibrium price C) Long-run supply is downward sloping, so the new long-run equilibrium price is higher than the original equilibrium price D) Long-run supply is upward sloping, so the new long-run equilibrium price is higher than the original equilibrium price

Worked Solution: First, increasing-cost industries by definition have upward-sloping long-run supply curves, so we can eliminate options A and C immediately. A permanent decrease in demand reduces total industry output after exit occurs. For increasing-cost industries, lower industry output reduces demand for scarce inputs, which lowers input prices. Lower input prices reduce the minimum ATC for all firms, and long-run equilibrium requires price equals minimum ATC. So the new long-run equilibrium price is lower than the original. The correct answer is B.

Question 2 (Free Response)

The market for organic apples is perfectly competitive, and is currently in long-run equilibrium. Organic apples are a constant-cost industry. (a) Draw two correctly labeled side-by-side graphs: one for the organic apple market, and one for a typical organic apple farmer. Show the original long-run equilibrium values, labeling the market price $P_1$, market quantity $Q_1$, and the farmer's quantity $q_1$. (b) A drought destroys 20% of the apple crop in the short run. Explain the short-run effect of this change on market price and the profit of the typical surviving farmer. (c) What happens to the equilibrium price of organic apples in the long run, compared to the original $P_1$? Explain your reasoning.

Worked Solution: (a) Market graph: Vertical axis labeled $P$, horizontal axis labeled $Q$. Draw a downward-sloping demand curve $D_1$, upward-sloping short-run supply curve $SRA{S}_1$, with intersection at ($Q_1$, $P_1$). Draw a horizontal long-run supply curve $LRSS$ at $P_1$ passing through the intersection. Firm graph: Vertical axis labeled $P$, horizontal axis labeled $q$. Draw $MC$ and $ATC$ curves, with $MC$ passing through the minimum of $ATC$. Draw a horizontal firm demand curve at $P_1$, which intersects $MC$ at $q_1$ where $P_1=MC=\min ATC$. All labels are correct as required. (b) The drought reduces the quantity supplied by existing firms in the short run, shifting the short-run market supply curve leftward. The new short-run equilibrium market price rises above $P_1$. For the typical surviving farmer, price is now above $\min ATC$, so the farmer earns positive economic profit in the short run. (c) The new long-run equilibrium price returns to the original $P_1$. This is a constant-cost industry, so $\min ATC$ does not change when input prices are unchanged. Positive short-run profit attracts new farmers to enter the organic apple industry, shifting the short-run supply curve rightward. Entry continues until price falls back to $\min ATC=P_1$, where economic profit returns to zero and entry stops.

Question 3 (Application / Real-World Style)

The market for mass-produced programmable smart watches is perfectly competitive and a decreasing-cost industry. It is currently in long-run equilibrium at a price of $60persmartwatch.Globaldemandforsmartwatchesincreasesby75$60? Explain what this outcome means for consumers.

Worked Solution:

1. Higher demand leads to positive short-run profit, which attracts new firms to enter the smart watch industry, increasing total industry output.
2. Higher industry output increases demand for key inputs like microchips and display screens. Input producers scale up production and exploit economies of scale, reducing per-unit input prices.
3. Lower input prices reduce the minimum ATC for all smart watch producers. Long-run equilibrium requires $P=\min ATC$, so the new long-run equilibrium price is lower than the original $60 per smart watch. Interpretation: Even though demand for smart watches has increased dramatically, over time the price of smart watches will fall as the industry expands, making them more affordable to a larger number of consumers.

8. Quick Reference Cheatsheet

9. What's Next

Long-run supply in perfect competition is the foundation for analyzing efficiency outcomes of perfectly competitive markets, the next core topic in Unit 3. You will use the long-run equilibrium condition $P=\min (ATC)=MC$ to prove that perfectly competitive markets achieve both productive and allocative efficiency in the long run, a concept that appears frequently on FRQs. Without mastering how entry/exit and industry cost structures shape long-run supply, you will not be able to correctly evaluate efficiency in perfect competition, or draw valid comparisons between perfect competition and imperfectly competitive markets like monopoly and monopolistic competition later in the course. This topic also builds the framework for welfare analysis that is used across all of microeconomics.

• Perfect Competition Efficiency
• Short-Run Supply
• Monopoly
• Monopolistic Competition