Question 1 (20 marks) (True/False). Write whether each statement is True or Fals

Question

Question 1 (20 marks) (True/False). Write whether each statement is True or False. Please fully explain your answers. No credit will be given for an answer without an explanation.

(a) Two competitive firms have the same technology and must pay the same wages for labour. They have identical factories, but Firm 1 paid a higher price for its factory than did Firm 2. If they are both profit maximizers and have upward sloping marginal cost curves, then we would expect Firm 1 to have a higher output than Firm 2.

(b) Mr. Cherry has a cost function of c(x) = x 2 + 100 if his output is x, is positive, but c(x) = 0 when x is 0. If the price of output is lower than 20, and Mr. Cherry is a competitive profit-maximizer, he will produce zero output.

(c) In a perfectly competitive market, firms take the market price as a given, which implies that the market demand is infinitely elastic.

(d) A market with barriers to entry may not be characterized by production at the minimum efficient scale in the long run.

Question 1 (20 marks) (True/False). Write whether each statement is True or False. Please fully explain your answers. No credit will be given for an answer without an explanation (a) Two competitive firms have the same technology and must pay the same wages for labour. They have identical factories, but Firm 1 paid a higher price for its factory than did Firm 2. If they are both profit maximizers and have upward sloping marginal cost curves, then we would expect Firm 1 to have a higher output than Firm 2. (5 marks) (b) Mr. Cherry has a cost function of c(z) = x2 + 100 if his output is x, is positive, but c(x) = 0 when x is 0. If the price of output is lower than 20, and Mr. Cherry is a competitive profit-maximizer, he will produce zero output. (5 marks) (c) In a perfectly competitive market, firms take the market price as a given, which implies that the market demand is infinitely elastic. (5 marks) To whom correspondence should be addressed (d) A market with barriers to entry may not be characterized by production at the mini- mum efficient scale in the long run. (5 marks)

Explanation / Answer

a. Two competitive firms have the same technology and must pay the same wages for labour. They have identical factories, but Firm 1 paid a higher price for its factory than did Firm 2. If they are both profit maximizers and have upward sloping marginal cost curves, then we would expect Firm 1 to have a higher output than Firm 2. This statement is false.

This is because in this case fixed cost increases for firm 1, and as you know fixed cost will not affect the marginal cost. We know that competitive firm's profit maximizing condition is P = MC.

Now as other things between two firms are equal and as fixed cost has no effect on MC, we can say that both firms will produce the same amount of output.

b. Mr. Cherry has a cost function of c(x) = x 2 + 100 if his output is x, is positive, but c(x) = 0 when x is 0. If the price of output is lower than 20, and Mr. Cherry is a competitive profit-maximizer, he will produce zero output. This statement is true.

Because if we consider price at 20, then as we know profit maximizing condition is P = MC.

Then MC = 2x,

so, 2x = 20, x = 10.

Now profit = TR - C(x)

So, profit = 20 * 10 - 10 * 10 - 100 = 0.

So, at price P = 20, profit = 0.

So, we can say that at price less than 20, the firm incurs a loss. So, they will stop production, which means output is zero.

c. In a perfectly competitive market, firms take the market price as a given, which implies that the market demand is infinitely elastic. This statement is false.

Because we know that market demand in competitive market is perfectly elastic because they have no power to influence the market.

d. A market with barriers to entry may not be characterized by production at the minimum efficient scale in the long run. This statement is true.

This is because if there is barriers to entry then the market can not be in long run equilibrium, this is because there is no free entry. And as we know firms in the competitive market enjoys a positive economic profit in the short run and due to free entry, the profit reduces to just economic profit in the long run. But as there is barriers to entry then it can never be in the long run equilibrium, and as a result the firms in the market may not operate at the minimum efficient scale.

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