Question

Entry and exit of firms occur in the long run, but not in the short run. Why? What is meant by the long run and the short run? Would you say that entry is more or less difficult than exit?

Short answer

Answer: In the short run, entry or exit is generally more difficult for firms because at least one factor of production, usually capital, is fixed, limiting firms' ability to adjust the size of their operations easily. In the long run, firms have more flexibility to adapt to changes in the market and make strategic decisions regarding entry or exit. However, the difficulty of entry and exit can vary across different industries and market situations.

Step-by-step solution

Introduction to Long-run and Short-run Periods

The long run and the short run are two different time horizons that firms consider when making economic decisions. The short run is defined as a period during which at least one factor of production, usually capital, is fixed. In contrast, the long run is a time period when all factors of production are variable. In other words, in the long run, firms can adjust their capital investments or the size of their operations more freely compared to the short run.

Long-run Entry and Exit of Firms

In the long run, entry and exit of firms can occur due to various factors such as changes in the economy, market conditions, and technology. During this time, firms can adjust to the market forces by making strategic decisions to enter or exit the market. The long-run equilibrium in a perfectly competitive market occurs when economic profits are zero, and firms are earning just enough to cover their costs and the opportunity costs of capital. At this point, no new firms would enter the market, and existing firms would not exit.

Short-run Entry and Exit of Firms

In the short run, firms cannot easily adjust their capital investments or the size of their operations. This means that they cannot easily enter or exit the market in response to market changes. Firms can still make some adjustments, such as increasing or decreasing production levels or adjusting prices, but these decisions are made within the constraints of the already-established capital and the size of their operations.

Comparing the Difficulty of Entry and Exit

Comparing entry and exit difficulty involves assessing the ease with which firms can enter or exit the market. Entry may be more difficult due to the presence of barriers such as high startup costs, licensing requirements, and the need to establish a competitive position in the market. Exit may be relatively easier, as firms could sell their assets, liquidate their inventory, and shut down operations, although exit may not be without financial losses. However, the difficulty of entry and exit can vary across different industries and market situations, so it is difficult to generalize which one is more or less difficult overall.