Price Taker
What is Price Taker?
A price taker is a firm that must accept the market price as given and cannot influence it through its own output decisions.
This occurs in perfectly competitive markets where each firm's output is too small relative to the market to affect price. The firm's demand curve is horizontal at the market price.
Price Taker: a worked example
Picture 4,000 identical oat farms, each selling 500 bushels, with the market price settling at $6. Total market output is 4,000 x 500 = 2,000,000 bushels, so one farm supplies 500 / 2,000,000 = 0.025 percent of it. Even if that farm doubled output to 1,000 bushels, market supply would rise by 500 bushels out of 2,000,000, far too little to move the price off $6. Ask $6.25 and buyers simply go to any of the other 3,999 sellers, so the farm sells nothing. Accept $5.75 and it hands over money it could have kept. Its own demand curve is flat at $6, so MR = P = $6.
The mistake students make with price taker
Students see the flat firm demand curve and conclude that market demand in perfect competition is also horizontal. Market demand still slopes downward; it is only the single small firm that faces a flat line at the going price. The confusion comes from drawing the market graph and the firm graph side by side and losing track of which axis belongs to which. A second slip is saying a price taker makes no decisions, when it still chooses output where marginal cost equals price.
Price Taker questions
Why is a price taker's demand curve perfectly elastic?
A price taker's demand curve is perfectly elastic because its product is identical to every rival's and buyers can see all the prices. Charging even a cent above the market price sends every customer to another seller, so quantity demanded drops to zero. Charging less is pointless, since the firm can already sell everything it makes at the market price. That combination draws as a horizontal line.
What decision does a price taker actually make?
A price taker decides quantity, not price. It compares the given market price to its own marginal cost and expands output as long as price exceeds marginal cost, stopping where marginal cost has risen to meet it. It also decides whether to produce at all, shutting down in the short run if price falls below average variable cost, and exiting in the long run if price stays below average total cost.
Is being a price taker the same as being in perfect competition?
Being a price taker is the defining behavior of a firm in perfect competition, but the two phrases are not identical. Price taking describes one firm's situation, while perfect competition describes a whole market with many sellers, identical products, free entry and full information. A small producer selling into a large world market can behave as a price taker even where the wider market is not perfectly competitive.
This is the live Perfect Competition sandbox. Drag the curves, or open the full version.
Related terms
Common comparisons
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