Theory question 102
Market StructuresStudy the diagram below carefully and use the given information to answer the questions that follow.
(a) Determine: (i) the profit maximizing output; (ii) the firm's profit if it produces 600 units of output; (iii) the total cost if the firm produces 400 units.
(b) Calculate the: (i) total revenue; (ii) profit of the firm at the output level of 900 units.
(c) What will happen if a firm's market price falls below its average variable cost?
Show the model answer
(a)(i) 900 units, where MC = MR (MC cuts MR from below).
(ii) At 600 units price (MR = AR) = $10 and ATC = $6: profit = (10 − 6) × 600 = $2,400 (TR $6,000 − TC $3,600).
(iii) TC = ATC at 400 units × 400, with ATC read from the graph (the printed graph does not show a clear ATC value at 400 units).
(b)(i) TR = 10 × 900 = $9,000.
(ii) ATC at 900 units is about $8 (dashed line): TC ≈ 8 × 900 = $7,200, so profit ≈ 9,000 − 7,200 = $1,800.
(c) The firm cannot cover even its variable costs, so it shuts down (stops production) in the short run.
Read ATC at each output from the graph, then TC = ATC × Q and profit = TR − TC.