Suppose that the market for pizzas in your town is perfectly (or purely) competi

Question

Suppose that the market for pizzas in your town is perfectly (or purely) competitive, with a market price of $14 per pizza in long run equilibrium. A local pizza restaurant, Pizzazzy, signs a one-year lease in a new building in town and continues selling pizzas at this price. People in your town view Pizzazzy pizzas as the same as other pizzas. Suppose that a couple of months after the new pizza restaurant opens, the local government institutes a $10 per pizza price ceiling. If you buy a $10 pizza from Pizzazzy a week later (and assuming Pizzazzy is behaving rationally) what do you know about the marginal cost, average total cost, and average variable cost at the profit maximizing point of production after the price ceiling is imposed?

Explanation / Answer

Pizzazzy is still operating at $10 that means firm is covering atleast Average variable cost at price 10. and since it is operating at $14 in long run we can say that average cost is 14. Since it is perfect competition marginal cost and average costs are same. To maximise profit firm has to produce more. So equilibrium is at the right than the production in $10.

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