Why do individual firms in perfectly competitive markets face horizontal demand curves?

• A. Because each firm has significant market power and can set its own price.
• B. Because each firm is a price taker and can sell any quantity at the market price without affecting it.
• C. Because the market demand curve is always horizontal in competitive markets.
• D. Because consumers prefer to buy only from one firm, making its demand perfectly elastic.

Answer: (B)

Verified step by step guidance

1. Understand the nature of a perfectly competitive market: it consists of many firms selling identical (homogeneous) products, with no single firm large enough to influence the market price.
2. Recognize that in such markets, the market price is determined by the overall supply and demand, not by individual firms, making each firm a 'price taker'.
3. Since each firm sells a product identical to others, consumers have no preference for one firm's product over another, so the firm's demand curve is perfectly elastic at the market price.
4. This means the firm can sell any quantity at the market price, but if it tries to charge a higher price, it will lose all customers to competitors, and if it charges less, it unnecessarily reduces its revenue.
5. Therefore, the individual firm's demand curve is horizontal at the market price, reflecting that the firm faces a perfectly elastic demand.