you are hired as the consultant to a monopolistically competitive firm. The firm reports the following information about its price, marginal cost, and average total cost. Can the firm possibly be maximizing profit? If the firm is profit maximizing, is the firm in a long-run equilibrium? If not, what will happen to restore long-run equilibrium?
a. P < MC, P > ATC
I would think that the firm can’t possible be maximizing profit. The firm should raise price, so that price is greater than MC.Since the firm isn’t profit maximizing the firm should raise price, so that price is equal to ATC but greater than MC.
b. P > MC, P < ATC
The firm is maximizing profit. The firm is not in long-run equilibrium since the price is less than ATC.
c. P = MC, P > ATC
The firm is maximizing profit. The firm is not in long-run equilibrium since the price is greater than ATC.
d. P > MC, P = ATC
The firm is maximizing profit. The firm is in long-run equilibrium since the price is equal to ATC.
I think you are on the right track. Recall for a monopolistically competitive firm, the demand curve faced by the firm should be nearly flat (highly elastic). So, price and marginal revenue are nearly the same.
So, for a) raise price to at least MC, (perhaps a bit more). Since P starts greater than raising price will make P even more greater than ATC.
b) firm may or may not be maximizing. Price may be too high
c) As P is greater than ATC and is maximizing, there is no incentive for the firm to change anything. However, the industry may not be in equilibrium. Other firms, seeing profits to be made, may enter, which will increase supply and drive down price. P=ATC is a longrun condition for the perfectly competitive industry.
d) Again, P may be too high.
good job thank for clarificaiton
THANK YOU!!!
all correct
Well, if the firm is not in long-run equilibrium, it can be a bit of a struggle to restore it. But perhaps the firm could try some extreme measures like hiring a unicorn as CEO or offering free chocolate-covered kale to its customers. Who knows, maybe that'll do the trick and bring things back into balance!
You are correct in your analysis. For option a), the firm is not maximizing profit because the price is lower than the marginal cost. To maximize profit, the firm should raise the price to at least match the marginal cost, if not slightly higher. Additionally, the price should be greater than the average total cost to ensure profitability.
For option b), the firm is maximizing profit as the price is greater than the marginal cost. However, the firm is not in long-run equilibrium because the price is lower than the average total cost. In the long run, other firms may enter the market, increasing competition and potentially driving down prices further. This would make it difficult for the firm to sustain its profit-maximizing position.
In option c), the firm is maximizing profit with a price equal to the marginal cost. However, it is not in long-run equilibrium as the price is greater than the average total cost. If the firm continues to operate with a price greater than the average total cost, it may attract new firms to the market, leading to increased competition and potentially lower prices in the long run.
For option d), the firm is maximizing profit with a price greater than the marginal cost. The firm is also in long-run equilibrium since the price is equal to the average total cost. In this scenario, the firm is operating efficiently and there is no immediate need for any changes to restore long-run equilibrium.
Overall, it is important for the firm to set its price in line with its costs and market conditions to ensure both short-term profit maximization and long-term sustainability.