Question

Briefly explain why you think the following statements are true, false, or uncertain.

Your grade will depend largely on the quality of your explanations.

1. Profit function is homogenous of degree one and non-decreasing in input prices.
2. If the demand faced by a firm is inelastic, selling one more unit of output will decrease revenues.
3. It is usually assumed that a perfectly competitive firm's supply curve is given by its marginal cost curve. In order for this to be true, these additional assumptions are necessary:

I.          That the firm seek to maximize profits.

II.        That the marginal cost curve be positively sloped.

III.       That prices exceed average variable cost.

IV.       That prices exceed average total cost.

4. If price is equal to short‑run average variable cost, the firm is at the point known as the profit maximizing point.

Answer 1

a.

Statement is Incorrect

The profti function is homogenous of degree one but non-decreasing only in output prices and not in input prices.

Profit Function is non-increasing in input prices. So, statement is false.

b.

Correct

In case of inelastic demand, Quantity Sold is negatively related to the Total Revenue. An increase in the quantity sold will lead to fall in the total revene.

c.

Incorrect

Statements I, III and IV. are incorrect. Only statement II is correct since the perfectly competitive market is characterized by upward sloping marginal cost curve

d.

P = Short run average variable cost. This is a condition for the shut-down of operations. If P < AVC, firm will shutdown. If P > AVC, fill will operate but incur losses.

The Profit maximizing condition is P = MC.

Hence, the statement is Incorrect