Question

#5

75. The graphs below show the market demand and supply curves for a good in a perfectly competitive industry along with a representative firm's short-run average and marginal cost curves. a. Determine the equilibrium price (label Pe) and output (label Qe) in the market. b. Draw the firm's demand (label d) and marginal revenue (label MR) curve. c. Determine the profit maximizing output (label 4). Explain why this is the profit-maximizing output d. Is the firm earning a profit or incurring a loss? Explain. e. Now suppose there is an increase in the market demand for this good. Show and explain what happens to the market price (label Pe'), the market output (label Qe') and the representative firm's profit maximizing output (label de'). Explain what happens to the firm's profit of loss,

Answer 1

In a perfectly competitive market the price and quantity is determined by the market supply and market demand. The individual scller or buyer is unable to influence the market price by his own action. Each seller adjusts his output and cach buyer adjusts his purchase according to the ruling price in the market. Price Revenue and cost ATC Pe - d=AR=MR Profit AVC Qe 9c Quantity Quantity a. The equilibrium price in the market is Pe and the equilibrium quantity is Qe b. The demand curve faced by a firm is d. It is perfectly elastic. Each output can be sold at a single price. Hence Marginal revenue is equal to average revenue, c. Each firm adjust the level of output where MC=MR where profit is maximum. The equilibrium quantity of the firm is qe. If the output below qe the marginal cost is lower than the price. The profit increase as output expands. Then the firm expands output. If the firm expands its output beyond qe the marginal cost is higher than the price. The profit decrease. Therefore the profit maximizing output is qe d. The profit is the difference between the total cost and total revenue. Al the price Pe and quantity qe, the total revenue is oprqe. But the total cost is only ostqe. Then the form earns profit equal to the area 'sprt'. Total revenue = opxoqe. Total cost is osx oqe. The firm earns positive economic profit. Price MS Revenue and cost MC AIC..........d1-ARI MRI — PAR MR Profit AVC Qe Qe qe qe Quantity Quantity The increase in demand shifts the market demand curve to the right from MD to MD1. Thus the price increase to Pe and the market equilibrium quantity rise to Qe'. The firms expand its output to qe. The profit of the firm increase further in shortrun.