Question

Use the economic theories discussed, to determine whether the statement in Italics in the following question is True, False or Uncertain. Please explain using both words and graph(s) and make it concise.

Assume a perfectly competitive café industry where there are many firms producing an identical café service. New social distancing and cleaning requirements mean that fewer patrons can be served at one time leading to an increase in the marginal cost of operations (but not the fixed costs). However, given the demand for cafés has also decreased, the decrease in demand cancels out the increase in costs and firm profits will remain constant.

Answer 1

The statement is a false statement.

The above change will lead to decrease in the profits of the firm. This is because the decrease in demand will reduce the overall demand of the product in the market and increase in the cost will reduce quantity supplied in the market and supply curve will shift leftwards. This will lead to fall in the level of equilibrium quantity of the cafe industry. As the equilibrium quantity falls in case of perfeclty competitive market, the profits of the firm will fall and not remain constant.