Question

If a profit-maximizing firm is producing an output level in which marginal revenue exceeds marginal cost, should it produce more, less or the same? Why? What is the profit-maximizing quantity for any firm to produce?

Answer 1

If a profit-maximizing firm is producing an output level in which marginal revenue exceeds marginal cost, should it produce more.

If a firm is trying to maximize its profits, it should consider what happens when it changes its production by one more unit. The firm will of incur an extra cost from producing an extra unit (which is called MC), and it will also receive revenue from that extra unit (which is called MR). If the MC is greater than the MR received, then the firm should realize that producing an extra unit of output is not profitable. Thus, the firm should reduce some of its production. On the other hand, if the MC is less than the MR, then it is profitable for the firm to produce an extra unit of output. The firm should continue to produce extra units of output as long as the MR it receives from that unit equals the MC (i.e. MR = MC). This is the point at which the firm should keep production constant, because producing an extra unit beyond this point leads to a higher MC than MR.

Thus, the profit-maximizing quantity for any firm to produce is the quantity where MR = MC