What does the principle of competition indicate regarding excess profits?

The principle of competition suggests that when a business or an industry is experiencing excess profits, it serves as an attractive opportunity for new entrants. These potential competitors are motivated by the financial success displayed by existing firms. As more businesses enter the market, the competition increases, leading to a potential reduction in profits for all companies involved. This phenomenon occurs because the influx of new competitors typically results in increased supply. If the supply of goods or services exceeds demand, prices may drop, leading to lower profit margins.

In this case, the principle underscores how competition can influence market dynamics and profitability. Thus, when excess profits are present, they are likely to foster a competitive environment that can ultimately diminish those excess profits as new market players seek a share of the lucrative opportunity. This transactional interplay helps to stabilize the market over time, ensuring that no single entity can maintain excessive profitability without attracting competition.