Explain why a firm in Perfect Competition earns supernormal profits in the short-run

A perfectly competitive market is a market where a large number of firms produce identical products (perfect substitutes). The characteristics that define perfect competition are the following: - no barriers to enter the market - perfect information/knowledge about the market - perfect substitutes - firms have no control over the market price (price takers) (put diagram of demand curve for Perfect Competition) The demand curve for Perfect Competition is perfectly elastic because the firms are "price takers" so the price is constant. Supernormal profit is also known as economic or abnormal profit and it is defined as the profit-maximising level of output. When economic profit happens Total Revenue is is greater than Total Cost and the Price is greater than the Average Total Cost. Furthermore, the short-run is a period of time when only one factor of production can vary. As in perfect competition there is perfect knowledge for every firm about what is happening and there are no barriers to entry, if external firms know that PC firms are making abnormal profit, they will enter the market. However, in the short-run, this cannot hapen and so the new firms entering the market will not have eroded the PC firms profit. (put diagram for Market for PC in short-run) As we can see on the graph, for PC in the short-run, Average Revenue becomes the firms' demand curve and as the price per unit is constant Marginal Revenue equals Average Revenue. As we can see, firms will accept the price (P1) as they are "price takers" and produce where Marginal Revenue equals Marginal Cost. Furthermore, we can see that Price is greater than Average Total Cost which means that Total Revenue is greater than Total Cost and that the firm is making supernormal profit. However, this will only happen in the short-run because in the long-run, there will be new firms entering the market thus leading all the firms to produce normal profit (where Price equals Average Total Cost on graph). (insert graph for Market for PC in Long-Run)