Question

A firm in a purely competitive industry is currently producing 1,000 units per day at a total cost of $600. If the firm produced 800 units per day, its total cost would be $400, and if it produced 500 units per day, its total cost would be $375.

a. What are the firm's ATC at these three levels of production?

At 1000 units per day, ATC =

At 800 units per day, ATC =

At 500 units per day, ATC =

b. If every firm in this industry has the same cost structure, is the industry in long-run competitive equilibrium? Yes/No

c. From what you know about these firms’ cost structures, what is the highest possible price per unit that could exist as the market price in long-run equilibrium?

d. If that price ends up being the market price and if the normal rate of profit is 10 percent, then how big will each firm’s accounting profit per unit be?

Answer 1

a). At 1000 units per day ATC = TC/Q = $600/1000 = $0.6, At 800 units per day ATC = $400/800 = $0.5, At 500 units per day ATC = $375/500 = $0.75

b). If every firm in this industry has the same cost structure, the long run equilibrium will be at a point where the firms will have lowest cost. So long run competitive equilibrium will be at 800 units of production where total cost is $400. At this level the ATC is lowest among these production of 1000, 800 and 500 units. So long run equilibrium will be where we will have lowest ATC among these production and this occurs at 800 units of production where ATC is $0.50. So the industry in long run competitive equilibrium as all the firm's has the same cost structure.

c). The highest possible price exist at this market is $0.50 per unit. Because in long run equilibrium we know that it will be restored where average cost is minimum and price will be equal to minimum of ATC and for that reason highest possible price could be $0.50.

d). If the market price be $0.50 and normal rate of profit is 10% then each firm's total accounting profit be TR - TC = {(0.50+0.5*10%)*800 } - {(0.50*800)} = 0.55*800 - 0.5*800 =$ 0.05*800 = $40. So each firm's total accounting profit will be $40.

Each firm's accounting profit per unit is $40/800 = $0.05 (ans).