3. Profit maximization and competitive supply Flashcards

Question

How does the shut-down rule help firms decide whether to operate in the short run?

Answer 1

The shut-down rule advises that if the price falls below average variable cost (AVC), the firm should shut down because it cannot cover its variable costs, let alone fixed costs.

Answer 2

An increase in demand raises the market price in the short run, leading to short-term profits for firms. In the long run, new firms enter the market, driving prices down until profits return to zero.

Answer 3

In the short run, producer surplus includes profits above fixed costs, but in the long run, competitive pressures eliminate excess profits, leading to zero producer surplus beyond covering total costs.

Answer 4

In an increasing-cost industry, as firms expand output, input costs rise, leading to an upward-sloping long-run supply curve because higher prices are needed to cover increasing costs.

Answer 5

Economic rent reflects the earnings of a factor above its opportunity cost. Firms will allocate resources to markets or uses where they can earn the highest rent, leading to efficient resource distribution.

Answer 6

The output rule, where price equals marginal cost (P = MC), ensures that firms maximize profit in both the short and long run by producing the quantity where the additional revenue equals the additional cost of production.

Answer 7

A tax increases firms' marginal costs, leading to higher prices and lower quantities in the short run. In the long run, some firms exit the market, reducing supply until prices rise enough to restore zero economic profit at the new equilibrium.

Answer 8

In an increasing-cost industry, firms earning economic rent on scarce inputs face rising costs as output expands. This limits the number of firms entering the market, helping to sustain higher long-run prices and preserving rent on these inputs.

Answer 9

Free entry and exit increase long-run supply elasticity, as new firms enter when prices rise above costs, expanding supply, and firms exit when prices fall, keeping the long-run supply curve relatively more responsive to price changes.

Answer 10

In the long run, producer surplus disappears as firms enter or exit the market until prices equal average costs. Any surplus gained from temporary price increases is eroded, leading to zero economic profit and no long-term producer surplus.

Answer 11

The shut-down rule helps firms decide whether to produce in the short run by comparing price with average variable cost (AVC). If price is above AVC, the firm covers variable costs and part of fixed costs; if below, it should shut down to minimize losses.

Answer 12

π(q) = R(q) - C(q), where π is profit, R(q) is total revenue, and C(q) is total cost.

Answer 13

MR(q) = ΔR / Δq, where MR is the additional revenue from selling one more unit and q is the quantity produced.

Answer 14

MC(q) = ΔTC / Δq, where MC is the additional cost of producing one more unit and TC is total cost.

Answer 15

MC(q) = P, meaning profit maximization occurs when marginal cost equals the price of the good.

Answer 16

Ep = (ΔQ / ΔP) * (P / Q), where Ep is the price elasticity of supply, Q is quantity supplied, and P is price.

Answer 17

PS = R - VC, where R is total revenue and VC is variable cost.

Answer 18

π = R - VC - FC, where π is profit, R is total revenue, VC is variable cost, and FC is fixed cost.

Answer 19

P = MC = AC, meaning price equals both marginal cost and average cost in the long-run equilibrium.

Answer 20

The long-run supply curve is horizontal at the minimum average cost, meaning cost remains constant as output expands.

Answer 21

MC + Tax = P, meaning the marginal cost of production increases by the amount of the tax.

3. Profit maximization and competitive supply Flashcards

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