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7) If, for a given output level, a perfectly competitive firm’s price is less than its...

7) If, for a given output level, a perfectly competitive firm’s price is less than its average variable cost, the firm a. should increase output. b. should shut down. c. should increase price. d. is earning a profit.

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Answer - b. Should shut down

At a given level of output if the price (AR) is less than the average variable cost (AVC), then the firm should shut down. At this condition, if the firm should shut down and bear the loss that is equal to total fixed cost. Price is less than AVC means the firm is not able to recover the variable cost. If the firm continues to produce, then the firm’s loss will more than the total fixed cost. Hence, the firm should shut down and let the firm bear the loss equals to total fixed cost.

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