Chapter 9 Producer Equilibrium Solutions
Question - 1 : - What conditions must hold if a profit- maximizing firm produces positive output in a competitive market?
Answer - 1 : -
The conditions must hold if a profit maximizing firm produces positive output in a competitive market when price is constant’under MR/MC approach is determined where,
(i) MR = MC (ii) MC must be rising
| Output (Units) | Marginal Revenue (Rs) | Marginal Cost (Rs) |
| 1 | 8 | 10 |
| 2 | 8 | 8 |
| 3 | 8 | 7 |
| 4 | 8 | 8 |
| 5 | 8 | 9 |
According to Table, both the conditions of equilibrium are satisfied at 4 units of output. MC is equal to MR and MC is rising. MC is more than MR when output is produced after 4 units of output. So, Producer’s Equilibrium will be achieved at 4 units of output. However, MR is equal to MC at 2 units of output also. But, second condition is not fulfilled here.
Let us understand the determination of equilibrium with the help of a diagram:
Producer’s Equilibrium is determined at OQ level of output corresponding to point E as at this point, MC = MR and MC curve cuts MR curve from below. In Figure, output is shown on the horizontal axis and revenue and costs on the vertical axis. Producer’s equilibrium will be determined at OQ level of output corresponding to point E because at this, the following two conditions are met:
(i) MC = MR;
(ii) MC curve cuts the MR curve from below.
When MR > MC, then producer will continue to produce as long as MR becomes equal to MC. It is so because firm will find it profitable to raise the output level.
When MR < MC, then producer will cut down the production as long as MR becomes equal to MC. It is so because firm will find it unprofitable to produce an extra unit. So, it starts reducing the level of output till MR = MC.
Answer - 2 : -
The profit maximizing level of output is always determined where,
(i) MR = MC
(ii) MC must be rising. In other words, where price is equal to MC.
If price is not equal to MC, profit maximizing condition cannot hold. It can be explained with the help of the following two cases:
Case 1: Price Greater Than MC
(i) In the given figure at output level q2, the market price is greater than marginal cost.
(ii) To show that q2 is not a profit maximizing level of output, we have taken q3 output level, which is right of qr
(iii) Suppose the firm increases its output level from q2 to qr The increase in total revenue of the firm from this output is the market price multiplied by the change in quantity (ATR = market price x AQ), that is, the area of rectangle q2q3CB.
(iv) On the other hand, the increase in total cost with this, increase in output is the area of the region q2q3XW.
(v) But, a comparison of the two area shows that the firm’s profit is higher when output level is q3 rather than q1 So, q2 is not a profit maximizing level of output.
Case 2: Price Less Than MC
(i) In the given figure at output level q2, the market price is less than marginal cost.
(ii) To show that q2 is not a profit maximizing level of output, we have taken q3 output level, which is left of qr
(iii) Suppose now, that the firm reduce its output level from q2 to q1 The decrease in total revenue of the firm from this output is the market price multiplied by the change in quantity (ATR = market price x AQ), that is, the area of rectangle q2q3CB.
(iv) On the other hand, the decrease in total cost with this decrease in output is the area of the region q2q3WX.
(v) But, a comparison of the two area shows, that by reducing the output from q2 to q3, the decrease in cost is more than the loss in revenue. So, q2 is not a profit maximizing level of output.
Answer - 3 : - No, as sufficient condition of producer equilibrium is Marginal Cost must be rising when Marginal Cost = Marginal revenue. It can be explained with the help of following diagram:
Point F is not a producer equilibrium because at this point, marginal cost = marginal revenue when marginal cost is falling. It is so because after point F, and output then producer will continue to produce as long as MR becomes equal to MC as firm will find it profitable to raise the output level.
Answer - 4 : -
| Quantity Sold (Units) | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 |
| TR (Rs) | 0 | 5 | 10 | 15 | 20 | 25 | 30 | 35 |
| TC (Rs) | 5 | 7 | 10 | 12 | 15 | 23 | 33 | 40 |
| Profit (Rs) | - | - | - | - | - | - | - | - |
Market price (AR) = TR/Quantity sold = Rs. 5. (TR = Total Revenue; TC = Total Cost)
Answer - 5 : -
Answer
The producer achieves equilibrium at 6 units of output because at this point MC = MR and MC is rising.