You are competing in a perfectly competitive bread industry. You spent $1000 dev
ID: 1124278 • Letter: Y
Question
You are competing in a perfectly competitive bread industry. You spent $1000 developing a special bread recipe, but unfortunately your customers can’t tell the difference between your bread and your competitors. You rent a building and oven for $3000 a month. You could quit and go back to working for the bank and earn $5000 a month. Your only variable costs are the ingredients in bread, which cost $0.50 per loaf, and you can produce 10,000 loaves per month.
a) What would the market price have to be for you to earn 0 economic profits? Please show calculation
b) Suppose the market price is $1.10 per loaf. What should you do in the short run--be specific.
(i) Should you produce or not produce?
(ii) If so, how many units? Why?
(iii) If you are indifferent between working as a baker or a banker, what should you do in the long run?
Explanation / Answer
a.
P
per unit cost
Q
TFC
TVC
TC
TR
Profit
1.4
0.5
10000
9000
5000
14000
14000
0
TFC= cost of developing + rent+ Opportunity cost = 1000+3000+5000=9000
TVC = 0.5*10000=5000
TR = Q*P
Profit = TR-TC
b) For the reduced price it should not produce as it would lead to loss. Also by working as a banker he can make $5000 instead of making a net loss of -$3000
P
per unit cost
Q
TFC
TVC
TC
TR
Profit
1.1
0.5
10000
9000
5000
14000
11000
-3000
So inorder to make profits it need to produce by extra 5000 units
P
per unit cost
Q
TFC
TVC
TC
TR
Profit
1.1
0.5
15000
9000
7500
16500
16500
0
So in the longrun if it can increase the output it can continue in the business but if it cannot increase it would be better to quit and continue as a banker.
P
per unit cost
Q
TFC
TVC
TC
TR
Profit
1.4
0.5
10000
9000
5000
14000
14000
0
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