The firm maximizes profit by producing q 2 . Its profit is abcd. Long run adjustment. We assume that the entering firms build plants of the same size as the existing firms. This causes a surplus at the short run equilibrium price of p 2 .
Firms respond by reducing their price and output.
This continues so long as the surplus remains. That is, it continues until price falls to p 3 in the right panel of Figure 11-4, where SS 2 crosses D 2 . The entry of new firms cause the costs of production to rise faced by the firm. because we assume that this is an increase cost industry. The increasing cost industry assumption is represented by the fact that we have drawn the long run industry supply curve with an upward slope. This means that as more capital is produced to enable more firms to enter the industry, the cost of production faced by the firm rise.