Question

A profit-maximizing firm in a competitive market is currently producing 100 units of output. It has average revenue of $10, average total cost of $8, and fixed cost of $200. The efficient scale of the firm must be more than, less than, or exactly 100 units?

Answer 1

Answer: Efficient scale occurs at an output level of less than 100.

Explanation:

Given,

Average Revenue (P) = $10,

Quantity (Q) = 100,

Average Total Cost (ATC) = $8

Fixed Cost (FC) = $200

Profit (π) = (P - ATC)×Q

= ($10 - $8)×100

= $200

In a competitive market,

MR = MC.

∵ Marginal revenue equals Marginal cost, Therefore MC = $10.

Average fixed costs (AFC) = $\frac{FC}{Q}$

=  $\frac{200}{100}$

= $2

Average variable cost = Average total cost - Average fixed cost

= $8 - $2

= $6

Here average total cost is less than the marginal cost and it must be increasing. The efficient scale of the firm occurs when the price is set at minimum average cost.

Hence, efficient scale occurs at an output level of less than 100.