Question

2. A profit-maximizing business incurs an economic loss of S30,000 per month. Its fixed cost is S20,000 per month. a) Should this firm produce or shut down in the short run? Explain. Should it stay in the industry or exit in the long run? Explain. b) Suppose instead that this business has a fixed cost of S35,000 per month. Should it produce or shut down in the short run? Explain. Should it stay in the industry or exit in the long run? Explain. Chapter 1:3 3. Vacation Island has only one hotel on the entire island. The demand schedule for a room at the hotel is given below Price per night, er room S250 $225 $200 $175 $150 $125 Quantity demanded 4 Calculate the hotel's total revenue and its marginal revenue. From your calculation, draw a) b) Explain why this hotel faces a downward-sloping demand curve c) Using the total costs given in the table below, calculate the hotel's marginal costs and add and curve and the marginal revenuec urve the marginal cost curve to your diagram from part a. Show your calculations Quantity (number of roomTotal Cost rentals $100 $125 S200 S325 $500 $725 4 d) Use marginal analysis to determine the profit maximizing number of room rentals Explain. How much profit will the hotel earn, if it rents the profit-maximizing quantity of rooms? Show your calculation. What price will the hotel charge for a room? Explain. e)

Answer 1

2) a) Firm should shut down its production in the short run because firm is not able to cover all its variable cost. When economic loss is 30,000 while fixed cost is 20,000 that means variable cost which is not covered by the firm is 30,000 - 20,000 = $ 10,000.

Firm should exit the industry in the long run because when firm exit then loss would be $ 20,000 rather than 20,000.

b) Firm should produce in the short run because firm is able to cover all its variable cost and some of its fixed cost. Fixed cost is 35000 while loss is 30,000 which means firm is able to cover all its variable cost and 35000 - 30000 = $ 5000 of fixed cost. If firm shut downs its production then it would suffer loss of $ 35000 i.e. fixed cost.

Firm should stay in the industry in the long run because exiting gives more loss to firm.