Cornell University ECON 1110Chapter 14 q 6-Deriving the short-run supply curve
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Course
ECON 1110
Institution
Cornell University
6. Deriving the short-run supply curve
Consider the competitive market for sports jackets. The following graph shows the marginal cost (MC), average total cost (ATC), and average variable
cost (AVC) curves for a typical firm in the industry.
For each price in the following table, use the graph t...
cornell university econ 1110chapter 14 q 6 deriving the short run supply curve
6 deriving the short run supply curve consider the competitive market for sports jackets the following graph shows the
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Aplia: Student Question 11/6/17, 6'27 PM
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6. Deriving the short-run supply curve
Consider the competitive market for sports jackets. The following graph shows the marginal cost (MC), average total cost (ATC), and average variable
cost (AVC) curves for a typical firm in the industry.
100
90
80
m
er as
70
co
COSTS (Dollars)
60
eH w
ATC
50
o.
40
rs e
ou urc
30
20
AVC
o
10 MC
aC s
0
vi y re
0 5 10 15 20 25 30 35 40 45 50
QUANTITY (Thousands of jackets)
ed d
ar stu
is
For each price in the following table, use the graph to determine the number of jackets this firm would produce in order to maximize its profit. Assume
Th
that when the price is exactly equal to the average variable cost, the firm is indifferent between producing zero jackets and the profit-maximizing
quantity. Also, indicate whether the firm will produce, shut down, or be indifferent between the two in the short run. Lastly, determine whether it will
make a profit, suffer a loss, or break even at each price.
sh
Price Quantity
(Dollars per jacket) (Jackets) Produce or Shut Down? Profit or Loss?
10 0 Shut down Loss
20 Either 0 or 30,000 Either shut down or produce Loss
32 35,000 Produce Loss
40 37,500 Produce Loss
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If a competitive firm produces a positive output, it does so by choosing to produce the quantity at which market price (P) is equal to marginal
cost (MC). For example, the point on the MC curve with a height of $50 has a horizontal value of 40,000 jackets. Therefore, if the price of a
jacket is $50, the firm will produce 40,000 jackets. (Note: When price equals marginal cost at more than one quantity, the profit-maximizing
quantity must be the quantity where marginal cost is increasing. If marginal cost is decreasing, this means that increasing production by one
more unit would increase profit because marginal revenue would be larger than marginal cost. Therefore, production should continue until price
equals marginal cost in a region where marginal cost is increasing.)
A firm's decision on whether to produce in the short run depends on whether it can earn enough revenue to cover its variable costs. This is
because a firm's fixed costs must be incurred in the short run, regardless of whether the firm produces output. Because these costs must be
paid regardless of production, they are considered sunk and should not be taken into consideration in the short run. If the firm does not
produce a positive output in the short run, economists say it shuts down.
m
Graphically, the firm's shutdown price occurs at the price at which . This is because at the shutdown price, the firm must be
er as
indifferent between the profit it earns when it produces and the profit it earns if it shuts down. You can see this in the following derivation using
co
eH w
total revenue (TR), fixed cost (FC), variable cost (VC), average variable cost (AVC), price (P), and quantity (Q):
o.
rs e
ou urc
o
aC s
vi y re
Therefore, the firm's shutdown price occurs when . Since a competitive firm always chooses the quantity at which (if it
ed d
produces), this must correspond to the intersection of the MC and AVC curves. In this case, the firm's minimum AVC is $20 per jacket.
ar stu
Therefore, if the market price is less than $20, the firm maximizes its profit by shutting down in the short run. If the market price is more than
$20, the firm maximizes its profit by producing in the short run. If the market price is exactly $20, the firm is indifferent between producing and
shutting down.
is
Profit is the difference between total revenue and total cost. Breaking this down even further yields the following result:
Th
sh
Because a competitive firm sets , this means that the firm earns a positive profit if , breaks even (earns zero profit) if
, and is operating at a loss if .
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