Prior to beginning work on this assignment, review Chapters 9, 10 and 11 from your textbook, Principles of microeconomics and
A firm operating in perfect competition has no influence over market price. It can sell any amount at the market-clearing price. The only one major decision to make then is about what quantity should be produced. When it decides the quantity to produce, then this quantityalong with the prices prevailing in the market for output and inputswill determine the firms total revenue, total costs, and ultimately, level of profits.
For the Costs and Revenue in Perfect Competition Assignment, you will submit an MS Excel spreadsheet and a paper (word document) in Waypoint.
In the , fill in the missing values in the given table.
Make sure to use the "formula" feature. (The numbers in the table change. So, if you don't use the "formula", your answers will be incorrect because of the changing numbers.) Please refer for guidance.
Calculate marginal cost (MC), marginal revenue (MR), average fixed cost (AFC), average variable cost (AVC), and average total cost (ATC).
Graph all the cost curves and the MR curve.
Find the profit-maximizing price and output.
Calculate the profit (or loss).
In your paper, based on the readings for the week and your calculations in the worksheet, answer the following question:
Explain if the firm should remain open or temporarily shut down when the price drops to $10.
Discuss why firms in perfectly and monopolistically competitive markets stay in business despite having zero economic profit in the long run.
Costs and Revenue in Perfect Competition
Introduction
In perfect competition, firms are price takers, meaning they have no influence over the market price and can sell any quantity at that price. The primary decision for these firms is determining the quantity of output to produce, which will ultimately affect their total revenue, total costs, and profit levels. This assignment involves calculating various costs and revenues for a firm operating in a perfectly competitive market, analyzing the implications if the price drops, and discussing the rationale behind firms' decisions to stay in business despite earning zero economic profit in the long run.
Cost Calculations
Key Formulas:
1. Marginal Cost (MC): Change in Total Cost / Change in Quantity
2. Marginal Revenue (MR): Change in Total Revenue / Change in Quantity
3. Average Fixed Cost (AFC): Total Fixed Cost / Quantity
4. Average Variable Cost (AVC): Total Variable Cost / Quantity
5. Average Total Cost (ATC): Total Cost / Quantity
Spreadsheet Calculations
To complete the calculations in Excel:
1. Create a table with columns for Quantity, Total Fixed Cost, Total Variable Cost, Total Cost, Total Revenue, Marginal Cost, Marginal Revenue, Average Fixed Cost, Average Variable Cost, and Average Total Cost.
2. Use the following formulas to fill in the missing values based on the data provided in the table:
- For MC: = (Total Cost at current quantity - Total Cost at previous quantity) / (Current Quantity - Previous Quantity)
- For MR: = (Total Revenue at current quantity - Total Revenue at previous quantity) / (Current Quantity - Previous Quantity)
- For AFC: = Total Fixed Cost / Quantity
- For AVC: = Total Variable Cost / Quantity
- For ATC: = Total Cost / Quantity
3. Graph all cost curves (MC, AVC, ATC) along with the MR curve.
Profit Maximization
To determine the profit-maximizing price and output:
- Identify the quantity where MR equals MC.
- Calculate profit or loss as follows:- Profit = (Price - ATC) * Quantity
- If this value is positive, the firm earns a profit; if negative, it incurs a loss.
Decision to Remain Open or Shut Down
Scenario: Price Drops to $10
If the market price drops to $10, it is essential to evaluate whether the firm should remain open or temporarily shut down:
1. Short-Run Decision:
- The firm should compare the market price with its average variable cost (AVC). If the price is above AVC, the firm should continue operating in the short run because it can cover its variable costs and contribute to fixed costs. If the price falls below AVC, the firm cannot cover its variable costs and should shut down temporarily.
2. Long-Run Implications:
- If sustained losses are expected, and if the price remains below average total cost (ATC) in the long run, continued operation without profitability is unsustainable. The firm must then assess its market position and make long-term strategic decisions.
Firms in Competitive Markets and Zero Economic Profit
In perfectly competitive and monopolistically competitive markets, firms often earn zero economic profit in the long run due to free entry and exit of firms:
1. Zero Economic Profit:
- In the long run, if firms in a perfectly competitive market are earning positive economic profits, new firms will enter the market attracted by these profits. This influx will increase supply and drive down prices until only normal profits are possible (where total revenue equals total costs).
2. Sustainability of Business:
- Firms can remain operational even when earning zero economic profit because they are covering their average total costs. They are still able to pay their opportunity costs and earn a return on their investment that is equal to what they could earn elsewhere.
3. Monopolistic Competition Dynamics:
- Similarly, in monopolistically competitive markets, firms differentiate their products but still face similar pressures from new entrants. Over time, this leads to a situation where firms earn zero economic profit as well.
Conclusion
In conclusion, firms operating under perfect competition face crucial decisions regarding output levels based on marginal costs and revenues. The analysis of cost structures informs strategic decisions about whether to remain open during periods of low prices. Furthermore, understanding why firms continue to operate despite earning zero economic profit is essential for grasping the dynamics of competitive markets. This knowledge helps illuminate not just firm behavior but also broader economic principles at work in various market structures.
Notes for Submission:
- Ensure that all calculations are accurately reflected in your Excel spreadsheet.
- Include graphs of cost curves and marginal revenue.
- Attach both your Word document and Excel file as required for submission.
- Review your calculations to verify accuracy before submission.