Question

1. Explain the concept of profit maximization when the marginal revenue equals marginal cost

2. Differentiate: Average Fixed Cost, Average Variable Cost, and Average Total Cost

Answer 1

1) According to Marginal Revenue - Marginal cost approach, a producer is said to attain equilibrium to the stage of output level if it is able to fulfill the below condition:

1. MR=MC - as long as MR> MC, it is profitable for the seller to producer more because it adds to profit. To note: it may occur number of times. Hence the next condition must supplement this condition

2.MC> MR after MR=MC is attained- after this point is achieved, there will not be any profit adding point.

In the figure above, MR=MC arrived at two point but the equilibrium is attained at point A , where both conditions are satisfied. Also profits are attained throughout ,between both the points where MR=MC . But gross profit is maximum at point A.

2) Average fixed cost refers to the per unit fixed cost of production. It is calculated as - AFC = Total fixed cost÷ Quantity of output.

Average variable cost refers to the per unit variable cost of production. It is calculated as- AVC= Total variable cost ÷ Quantity of output.

Average total cost refers to the per unit total cost of production. It includes both AFC and AVC. It is calculated as - ATC= Total cost ÷ Quantity demanded.

To note: Total cost = Total fixed cost+ total variable cost. Hence, Average total cost (ATC/AC)= AFC+AVC.