Entry eliminates long-run economic profit

New substitutes shift each incumbent’s demand left.

Profit attracts entrants with differentiated alternatives. Each incumbent loses some customers at every price until its demand curve is tangent to ATC. At tangency, P=ATC, so economic profit is zero. The firm still chooses where MR=MC and still faces downward-sloping demand.

Entry does not copy the product perfectly. It adds close substitutes. An incumbent’s demand shifts left because fewer buyers choose it at each price and often becomes more elastic because alternatives increase. The process stops when no excess return remains after explicit and implicit costs.

Tangency means demand touches ATC at the chosen output without crossing it. If demand lay above ATC, profit would remain and entry continue. If it lay below ATC, loss would induce exit. MR=MC still selects the tangency quantity. P=ATC measures zero economic profit.

Loss causes exit, shifting the remaining firms’ demand right until normal profit returns. Entry and exit affect each firm’s demand, not merely the market supply curve used in perfect competition.

Long-run tangency

A profitable fitness studio attracts yoga, cycling, and training studios. The original studio’s demand shifts left and becomes more elastic. Long-run equilibrium occurs where its demand is tangent to ATC, covering economic cost but leaving no excess profit.

Zero economic profit still includes normal return, owner labor, and opportunity cost. Studios remain open because resources earn as much as in their next-best use. Entry stops from lack of excess return, not because revenue or accounting profit is zero.

Perfect competition handles entry differently: market supply shifts right while one firm’s horizontal demand line moves down with market price. In monopolistic competition, each firm has its own downward-sloping demand and new substitutes shift it left. Both reach zero economic profit, but the graph route and efficiency endpoint differ.

If barriers prevent entry, the model no longer guarantees zero long-run profit. “Many differentiated firms” must be paired with relatively easy entry. A licensing cap can preserve profit and move the setting toward oligopoly or regulated competition.

The exact number of firms is not determined by the basic graph. Market demand and each firm’s scale influence it. The key endpoint is tangency with no entry or exit incentive.

Long-run tangency occurs on the downward-sloping portion of the firm’s demand curve. It does not mean demand and ATC have equal slopes everywhere or that the firm produces at minimum ATC. The chosen point must also satisfy MR=MC.

If a license or other barrier prevents new differentiated sellers, profit need not disappear. The zero-profit prediction rests on relatively easy entry. Always verify that condition before carrying the standard long-run result into the stem.

Loss and exit form the mirror process: fewer substitutes shift the surviving firm’s demand right until it is tangent to ATC. The incumbent’s cost curve need not move. The adjustment comes through the number of differentiated alternatives available to buyers.