The diagram above represents the equilibrium position of a firm in a perfectly competitive industry. Study it carefully and answer the questions that follow.
(a) i. At what level of output and prices is the firm in equilibrium?
ii. Calculate the firm’s profit in equilibrium
iii. What type of profits is it?
(b) i. Why is the average revenue (AR) function horizontal?
(c) State any two ways in which marginal cost (MC) and average total cost (ATC) are related.
Explanation
(a) i. Equilibrium output is 50kg and equilibrium price is $20.00.
(ii) Firm's profit = TR-TC
TR = 50kg x $20.00 = $1000.00
TC = 50kg x $12.00 = $600.00
= $1000.00-$600.00
Profit = $400.00
OR
Profit = (AR- AC) x Q
= ($20.00-$12.00) x 50
= $8.00x 50
= $400.00
(iii) Abnormal/economic/supernormal profit: This is because the profit is earned at a point where the price (AR) is greater than AC.
(b) The average revenue function is horizontal because, in perfect competition, AR which is also the price is constant/fixed.
(c) i. When MC is less than ATC, ATC is falling
(ii) When MC is equal to ATC, ATC is at its minimum.
(iii) When MC is greater than ATC, ATC s rising