Explain why a perfectly competitive firm will make normal profit in the long run.

A perfectly competitive market structure possess 4 defining characteristics. 1- Homegenous goods (all goods produced by different suppliers are of same quality and form, eg. Oranges) 2. No barriers to entry or exit of the market place (there are no large costs to setting up or stopping production of a good and the firm can enter or leave the market at any point) 3. There are a large numbers of small buyers and sellers in the market (This means no one person, company or entity can effect the market price by buying or selling in large quantities) 4. Perfect or near perfect knowledge is present in the market place (buyers know the price that all sellers are selling for- this means suppliers will all charge the same cost as if they charge above market price no one will buy from them and if they charge below other suppliers will be forced to do the same and a price war may occur).A perfectly competitive firm will make normal profit in the long run mainly due to characteristic 2. If demand increases for a good A the price will increase in the short run meaning some firms will make abnormal profit. However because there are no barriers to entry and exit within the market other firms will see this abnormal profit being made and will switch from making good B to producing good A. This will increase supply in the market of good A and thereby reduce price and compete away the abnormal profit.