Theory question 101
Theory of Costs and RevenueThe total fixed cost (TFC) and total cost (TC) functions of a hypothetical firm are shown in the graph below. Study it and answer the questions that follow
(a) Determine the firm's (i) variable cost at output levels 2, 4 and 6; (ii) average total cost at output levels 2 and 3; (iii) marginal cost at output levels 4 and 6.
(b) If the price of the firm's product is $40, calculate the firm's profit or loss when the following units are sold: (i) 2 units; (ii) 4 units.
Show the model answer
From the graph: TFC = $40; TC = $100, 120, 140, 160, 180, 200 at outputs 2, 3, 4, 5, 6, 7.
(a)(i) VC = TC − TFC: at 2, 100 − 40 = $60; at 4, 140 − 40 = $100; at 6, 180 − 40 = $140
(ii) ATC = TC/Q: at 2, 100/2 = $50; at 3, 120/3 = $40
(iii) MC = TCn − TCn−1: at 4, 140 − 120 = $20; at 6, 180 − 160 = $20
(b)(i) TR = 40 × 2 = $80; profit = 80 − 100 = −$20 (a loss of $20)
(ii) TR = 40 × 4 = $160; profit = 160 − 140 = $20
Fixed cost is where TC starts at zero output; VC = TC − TFC.