Profit Maximization:  

Perfect competition profit maximization A perfectly competitive firm is characterized by a large number of sellers selling a homogenous product and no barriers to entry or exit for firms. The firm's objective is to produce the level of output that will maximize profit.

Because no individual firm in this type of market can influence price, they are called price takers. They are not large of powerful enough to influence price which means that all firms must accept the price dictated by the market. Each firm thus takes its price from the market. It cannot charge a higher price than the market price because other firms will offer the product at market price and buyers will buy at the lower price. All units are sold for the same price, so each unit adds the same amount to total revenue. Therefore marginal revenue equals price. For all firms profits are maximized when marginal revenue equals marginal cost (MR=MC). Because marginal revenue equals price for the competitive firm, profits are maximized when marginal cost equals price (MC=P).

Firms in perfect competition earn economic profits in the short run. In short-run equilibrium, quantity supplied equals quantity demanded and each firm in the market is able to maximize profit. However in this market structure, economic profits attract new firms. New firms entering the market will cause supply curve to move to the right and this increase in supply will cause a drop in price. New firms will continue to enter the market until all the economic profits disappear. So in the long run, firms earn only normal profits and no economic profits. In the long run each firm in the market earns zero economic profit, so there is no incentive for other firms to enter the market. In addition to the conditions above, in long-run equilibrium the typical firm earns zero economic profit so there is no further incentive for firms to enter the market.