Answer to Question #91921 in Microeconomics for John Manda

Question

How does a competitive firm determine its profit-maximizing level of output? Explain. • When does a profit-maximizing competitive firm decide to shut down? When does it decide to exit a market?

Answer 1

A profit maximizing competitive firm sets price equal to its marginal cost. If price were above marginal cost, the firm would increase its profits by increasing outputs, while if price were below marginal cost, the firm would increase profits by decreasing output.

A profit maximizing competitive firm decided to shut down in the short run when the price is less than average total cost. In the long run, a firm will exit the market when the price is less than total average cost.