Perfect Competition :  

Perfect competition is a market structure in which a large number of firms produce a homogenous product for a large number of buyers. The markets for wheat, the maple syrup industry, the market for unskilled labor are all examples of perfect competition.

Output is set where profit is maximized marginal cost equals marginal revenue (which equals price) in the short run. In the long run, there are no economic profits and firms enjoy only normal profits.

Characteristics of a Perfectly Competitive Market:

• Each firm is a price taker. There are many firms each with an insignificant share of the market, implying that each firm is too small relative to the overall market to affect price through change in its own supply.
• Each firm produces a homogenous output. In other words, the market supplies identical or standardized products that are perfect substitutes for each other. Consumers perceive the products to be identical.
• Consumers have perfect information about the prices all sellers in the market charge. Hence if some firms decide to charge a price higher than the ruling market price, there will be a large substitution effect away from this firm.
• All firms (industry participants and new entrants) are assumed to have equal access to resources (technology, other factor inputs) and improvements in production technologies achieved by one firm can spill-over to all the other firms in the market.
• It is assumed that there are no barriers to entry and exit of firms in long run which means that the market is open to competition from new firms this affects the long run profits made by each firm in the industry. The long run equilibrium for a perfectly competitive market occurs when the firm makes normal profit only in the long term. The profit maximization under perfect competition is unique when compared to other market structures.
• There are no externalities in production and consumption so that there is no divergence between private and social costs and benefits. The efficiency of a perfectly competitive market is also different from that of other markets because of its unique nature. So too is the effect of a lump sum tax in a perfectly competitive market as well as the shut down decisions of under perfect competition.