Question

Question 2 The tortilla industry commissions you to examine the outlook for firms selling tortillas. There are currently twenty, identical price-taking firms in this perfectly competitive market. Each firm has a short-run cost function of STC(Q) = 9+ 2Q + . When the price is P, the total quantity demanded is given by Q(P) = 100 – 2P . (a) Assuming all fixed costs are sunk, find the short-run supply curve for a typical firm. (b) In the short run, what is the equilibrium price for tortillas? How many tortillas does the industry sell? How many does each firm sell? How much profit does each firm make? (c) Is this industry in long-run equilibrium? Explain.

Answer 1

(a)

Sunk costs are excluded from consideration, so relevant STC is

STC = 2Q + Q²

Marginal cost (MC) = dSTC/dQ = 2 + 2Q

Since firm's supply curve is its MC,

Firm supply function: P = 2 + 2Q

(b)

Since there are 20 firms,

Market supply (QS) = 20Q

Q = QS/20

P = 2 + 2 x (QS/20)

P = 2 + 0.1QS

0.1QS = P - 2

QS = 10P - 20

Equating with market demand,

100 - 2P = 10P - 20

12P = 120

P = 10

Q = 100 - (2 x 10) = 100 - 20 = 80 (Market quantity)

Firm quantity (q) = Market quantity / Number of firms = 80/20 = 4

Firm revenue (TR) = P x q = 10 x 4 = 40

Firm cost (STC) = 2 x 4 + 4 x 4 = 8 + 16 = 24

Firm profit = TR - STC = 40 - 24 = 16

(c)

Since firm is making positive profit, this is not a long run equilibrium since in long run equilibrium, profit is zero.