11. Suppose that at 100 units of output a firm is producing such that marginal r

Question

11. Suppose that at 100 units of output a firm is producing such that marginal revenue is equal to marginal cost. The firm is selling its output at a price of $4 per unit and is incurring average total costs of $6 per unit and average variable costs of $1 per unit. On the basis of this information we can conclude that in the short run a purely competitive firm:

A) is operating at maximum profit by producing the 100 units of output

B) is operating at a loss that could be reduced by shutting down

C) is operating at a profit that could be increased by producing more output

D) is operating at a loss that is less than the loss incurred by shutting down

Please explain how you got the answer

Explanation / Answer

D) here the firm is operating at a loss that is less than the loss it would incur in case it chooses to shut down. Here since the average total cost is greater than the price there is an overall loss, however because the price is larger than the average variable cost there are operating profits, hence we can do noting about the fixed cost as it is a sunk cost but at the variable level there are profits than can reduce the overall loss. Hence the firm should operate in short run so as to reduce the overall losses and shut down in long run.

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