Question

2.3 Initially, the market price was p = 20 , p=20, and the competitive firm’s minimum average variable cost was 18, while its minimum average cost was 21. Should it shut down? Why? Now this firm’s average variable cost increases by 3 at every quantity, while other firms in the market are unaffected. What happens to its average cost? Should this firm shut down? Why?

Answer 1

Answer : The firm shutdown it's production when price is equal to average variable cost or if the price is less than the average variable cost.

Here when average variable cost is 18 then the firm should not shutdown it's production. Because the price is 20 which is higher than the average variable cost.

Now if average variable cost increase by 3 then the average cost will increase by 3. Because average cost = average variable cost + average fixed cost.

After increase by 3 the average variable cost become (18 + 3) = 21.

So, when the average variable cost is 21 then the firm should shutdown it's production. Because the price is 20 which is lower than the average variable cost of 21.