Question

Part III. (3 points) Redraw the diagram describing a competitive firm, and answer the questions below. think Price 0 11. After labeling each curve, select/mark how much the profit-maximizing firm should produce. (1 point) 12. Identify/draw the area showing total profit at the level of output selected in #11 (1 point) JOT SHARE 13. In the long run, if the firms stays in the market, it will produce (more, less) as price (decreases, increases), and the economic profit eventually becomes (positive, zero, negative). Circle the correct ones. (1 point) END

please explain in details and please show how u did it .thank u

Answer 1

Ans.

MC ATC AVC Loss Price P = MR TS 0 0 QO

a) Marginal cost (MC) curve cuts the average variable cost curve (AVC) and average total cost (ATC) curve at their minimum points. So, it is easy to identify the MC curve. We know that the average fixed cost is the difference between average variable cost and average total cost and average fixed cost can never be negative, so, AVC < ATC always. Thus, the upper U shaped curve is ATC and the other one is AVC.

At profit maximizing level of output, marginal revenue (MR) must equal marginal cost. But in a competitive market, MR is equal to price at all output levels because the demand curve is perfectly elastic here. Thus, at profit maximizing level price (P) equals MC. At this point quantity is Q0.

b) Profit = (P - ATC)*Q0

But here at output level of Q0, P < ATC, so, the firm is incurring a loss and not profit.

Thus, the shaded rectangle shows the loss to the firm

c) In long run, losses to the firms make many firms to exit the industry. This decreases the market supply increasing the price level in the market. This happens till the point where price equals minimum of ATC and firms start earning normal profits (= 0). Thus, in long run, each firm will produce more output as prices have increased and will earn a zero profit.

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