Question

In a competitive market the current price is $5. The typical firm in the market has ATC = $5.00 and AVC = $4.50.

	a.	New firms will likely enter this market to capture any remaining economic profits.
	b.	In the short run firms will continue to operate, but in the long run firms will leave the market.
	c.	In the short run firms will shut down, and in the long run firms will leave the market.
	d.	The firm will earn zero profits in both the short run and long run.

Answer 1

Answer

Competitive market:

Competitive market having the characteristics of large number of supplier sale goods or services to a large number of buyers.

As given in the question that current price is \(\$ 5\), average total cost is \(\$ 5\), and average variable cost is \(\$ 4.50\). As from the given data one can show that firm earns normal profit as because price is equal to average total cost. Also price is greater than the average variable cost which means it is not a shut down point in the short run.

Option (a) "New firms will likely enter this market to capture any remaining economic profits." is not correct because as shown above firm earn normal profit and there is no remaining economic profit.

Option (b) "In the short run firms will continue to operate, but in the long run firms will leave the market" is not correct statement as because price is equal to average total cost which means firm earn normal profit in both short and long run.

Option (c) "In the short run firms will shut down, and in the long run firms will leave the market" is not correct statement as because price is greater than the average variable cost which means it is not a shut down point and also price is equal to average total cost which means firm earn normal profit in both short and long run.

Option (d) "The firm will earn zero profits in both short and long run" is correct statement as because price is equal to average total cost which means firm earn normal profit in both short and long run.

So option (d) is correct which says firm earns zero or normal profit.