Answer to Question #312905 in Microeconomics for felix

Question

1.a. Why would a firm that incurs losses choose to produce rather than shut down?

b. The supply curve for a firm in the short run is the short-run marginal cost curve (above the point of minimum average variable cost). Why is the supply curve in the long run not the long-run marginal cost curve (above the point of minimum average total cost)?

c. In long-run equilibrium, all firms in the industry earn zero economic profit. Why is this true?

Answer 1

1a) Losses are encountered when total revenue doesn't cover the total costs. Firms choose not to shut down due to the probability they have a long-term profitable future. For example, rather than losing skilled manpower, they would preferably encounter losses, since the production would be multiplied when the market returns.

b) Marginal cost is the increased cost incurred in production by a firm when all inputs are variable. The sloping of the long-run average cost is due to diseconomies of scale.

c) This is true because perfect competition theory assumes that there are no entry or exit barriers to new participants in an industry.