Question

Answer the questions below using the following information on a firm:

Output (Quantity)	Total Cost
0	$50
1	60
2	80
3	110
4	150
5	200
6	260
7	330
8	410

1. What is average total cost at Q=7?

2. What is marginal cost at Q =7?

3. Is this firm operating under increasing or diminishing returns at Q=7? Why?

4. Say this firm is a perfect competitor. If the market price for its product is $ 60, at what output level will it produce at (to maximize profits)?

5. Say this firm is a profit-maximizing monopolist. If the firm is maximizing profit where marginal revenue equals $40, at what output level will this firm be producing?

Answer 1

Answer : a) Average total cost = Total cost / Quantity

So, average total cost at Q = 7 : Average total cost = 330 / 7 = $47.14

b) Marginal cost at Q = 7 : Marginal cost = Total cost when quantity is 7 - Total cost when quantity is 6 = 330 - 260 = $70.

c) At Q = 6 the average total cost is (260 / 6) = $43.33

At Q = 7 the average total cost is $47.14

So, at Q=7 the firm is operating under diminishing returns to scale. Because at Q = 7 the average total cost increases then before. When the average total cost increase then the firm face diminishing returns to scale situation.

d) For perfectly competitive firm the profit-maximizing condition is Price = Marginal cost. Here the price is $60 (Given).

When Q = 6 then the marginal cost = Total cost of 6 units - Total cost of 5 units = 260 - 200 = $60.

As Price = Marginal cost = $60 occurs at quantity level of 6 units hence the firm will maximize profit by producing 6 units of output level.

e) For monopolist the profit-maximizing condition is Marginal revenue = Marginal cost. Here the marginal revenue is $40 (given).

When Q = 4 then the marginal cost = Total cost of 4 units - Total cost of 3 units = 150 - 110 = $40

As the marginal cost = marginal revenue = $40 occurs at quantity level of 4 units hence the firm will maximize profit by producing 4 units output level.