Question

The market for plastic bottle is in long run equilibrium with tgrre producers, two high cost and one low cost. The market price is equal to the minimum ATC of the two identical high cost producers. Suppose the variable cost curve for the low cost producer shifts down, when shipping costs fail from the nearby port.

Based on the above situation, it is suggested that the price of plastic bottle decreases in the long run.

Do you agree with this conclusion? Justify the conclusion by providing a sound reason and explain with a graph.

Remember, you need to explain WITH A GRAPH!

Answer 1

I disagree with this conclusion because,

Here, Market price is equal to the minimum average total cost of high cost producers. (Lowest point of long run average cost curve LAC= red curve in the above figure) It is determined at the point where marginal cost curve equals marginal revenue curve and long run marginal cost curve cuts long run average cost curve from below as shown in the above figure.

In the figure, Price P = MC= MR and LMC cuts LAC from below. At that point industry is in equilibrium by supplying OQ amount of output (plastic bottles here) at OP price. This is how two high cost firms decides market price in the long run.

So it is very clear that variable cost of any firm can do nothing in determining the market price and  quantity in the long run. So price of the plastic bottle never decreases in the long run as a result of fall in variable cost of the low cost firm.