Answer to Question #193551 in Finance for Tahmidur Rahman

Question

Question 2

A perfectly competitive firm faces the short-run cost schedule shown in Table 1.

Output

Total Cost

12

1

20

2

26

3

32

Table 1

4

40

567

68

93

a) Calculate average total cost (ATC=TC/Q), marginal cost (MC=ATC/AQ) and marginal revenue (MR-ATR/AQ) for each level of output. The price per unit of output is £16.

[5 marks]

b) Plot ATC, MC and MR on a graph and mark the profit-maximising output. At what output is profit maximised?

[5 marks]

8

122

BUS108 (2021)

c) How much profit/loss is made at the optimum level of output?

Page 3

[5 marks]

d) Assume market price declines to £9 per unit. If the firm's average variable cost is £9.5, should the firm shut down in the short run? In the long run? Explain.

[5 marks]

e) If the firm is typical of other firms, what price will it charge in the long run? Explain.

[5 marks]

Answer 1

A perfectly competitive firm maximizes profit by prducing output at level where P = MC

Total Revenue = Price * Quantity

Marginal Revenue = Change in Total Revenue / Change in Quantity

Marginal Cost = Change in Total Cost / Change in Quantity

(a)

(b)

At output of 32 units P or MR > MC as 16 > 4.83

(c)

At 32 units of output

TR = 512

TC = 122

Maximum Profit $= 512 - 122 = 390$

(d)For a firm to reach a point of shutdown, the condition is that the variable cost(average) must be equal/less than the price(revenue in average).

With the given data, the AR is at £9, which is the price. But the variable cost(average) is higher than this at £9.5. Thus, there is no need for a shutdown, at this point. 

In the long run, if the variable cost(average) goes below £9.5 or the price does not rise, then a need for requirement might occur. But it can be avoided if the firm starts charging a price that is higher. 

(e)The price in the long will be equal to the total cost(average) and also with the marginal cost. 

Thus, in this case, it will be 

$\frac{Total\space of\space costs}{total\space of\space output}$$=\frac{902}{92}=£9.39$

Thus, a price of $£9.39$ will be charged.