Explain how the profit-maximizing price and quantity of resources in factor markets under perfect competition are determined by marginal analysis

Under marginal analysis, the firms employ additional factor inputs till the level where the additional revenue gained from employing the additional input equals the marginal cost of hiring the input. Since there exists a cost in hiring additional inputs (for example labors), the additional revenue generated from them (marginal product of labor * marginal revenue) should equalise to the marginal cost incurred on them. If the marginal revenue product of additional factor, is greater than the marginal cost of hiring the factor, then there still exists some capacity for the producer to undertake more hiring. The additional hiring will be undertaken till the point where marginal revenue product equals the marginal cost of wages. Similarly, when the marginal cost is higher than the marginal revenue product, then the producer is already bearing greater costs than what the factors are giving in return. This will make the producer to reduce the number of labors, so as to cut down additional costs incurred on them. This will be undertaken till the point where MRP= MC.

Similarly while deciding the output level in the perfect competition, the producer will tend to equalise the marginal revenue earned from selling one additional unit of output with the marginal cost of producing it. This is the level where the producer will tend to maximise his profits. Any level of output below this should enable the producer to increase the level of production and any output level above this level will make the producer to reduce his level of output to justify his costs.