Question

Assume that price equals a rising marginal cost at 50 units of output. At this output, total variable cost is $250 and total fixed cost is $300. The product’s price is $6.

a. The perfectly competitive firm will maximize profit by producing ______ units of output.

b. If this firm shuts down, it will lose ______ dollars.

Answer 1

(a)

In order to maximize profit a firm produces that quantity at which P = MC. If at this quantity P < AVC. Then firm will shut down.

It is given that P = MC when Q = 50 units. Thus AVC = TVC/Q = 250/50 = 5. Also it is given that P = 6 => P > AVC.

Hence he will not shut down and will produce 50 units

Hence, The perfectly competitive firm will maximize profit by producing 50 units of output.

(Note here AVC = average variable cost, Q = quantity, TVC = total variable cost, P = price, MC = marginal cost and TFC = Total Fixed Cost)

(b)

If it shut down then he will not produce any quantity.When quantity(Q) = 0, Total Revenue(TR) = 0 and TVC = 0 but TFC = 300(because Fixed cost is independent of output and is constant i.e. 300)

Thus, Profit = TR - (TVC + TFC) = 0 - (0 + 300) = -300(negative means that it incurred a loss and loose value)

Hence, If this firm shuts down, it will lose 300 dollars.