Answer to Question #315501 in Microeconomics for taxe

Question

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

2. Explain why the industry supply curve is not the long-run industry marginal cost curve.

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

4. What is the difference between economic profit and producer surplus?

5. Why do firms enter an industry when they know that in the long run economic profit will be zero?

Answer 1

1) a firm continues in production even though it incurs losses because it can still cover it average variable costs. At this point, the cost of shutting down is higher than the cost of staying in business.

2)The industry's supply curve is not the same as the long run marginal cost curve because in the long run, the supply curve is a line joining all the short run market equilibrium prices together as the firm undergoes certain adjustment processes.

3) firms earn zero economic profit in the long run because as the economic profit increases initially, firms keep entering into the industry as so wipe off the profits till it tends back to the normal or zero profit.

4) An economic profit implies that total revenue is greater than total cost. It's is made after all the costs, both implicit and explicit, have been paid for. A producer surplus, on the other hand, occurs when there is a gain arising from willing to supply a certain quantity of goods below the equilibrium price.

5) The supernormal profits available in the short run entice firms to come into it. Even though they know the more they come in the lesser the profit will be, as long as they can still cover their average variable cost, and also knowing that other firms that can not survive making no profits will leave, thereby forcing the profits back up, they remain in the industry.