Question

The following graph shows a firm in a monopolistically competitive industry.
a. Show the firm’s short-run profit-maximizing quantity and price. Is the firm making a
profit?
b. Carefully explain what will happen in the industry over time, and draw a graph of a
monopolistic-ally competitive firm in long-run equilibrium.

Answer 1

a. The firm’s short-run profit-maximizing quantity is at point where MC = MR and profit-maximizing price can be found from the demand curve at this quantity. The firm is making a profit, if P > ATC.
b. In the long-run all firms will earn normal (zero) profit and P = LATC.