[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

PRICE/COST (THOUSANDS OF DOLLARS)
400
270
220
150
90
A
Total
revenue
curve
$105,000
profits
for output
of 7
0 1 2 3 4 5 6 7 8 9 10
OUTPUT
Total
cost
curve
$105,000
profits
for output
of 8
PRICE/COST (THOUSANDS OF DOLLARS)
130
B
Marginal
120
cost curve
110
100
90
80
70
Average
60 cost curve
50
40
30
20
10
0
1 2 3 4 5 6 7 8 9 10
OUTPUT
Figure 7.2
RELATING REVENUES
AND COSTS
The firm’s revenue and total cost curves can be diagrammed on the same graph, as in
panel A. When total revenue exceeds total costs, the firm is making profits at that level
of output. Profits, the difference between revenues and costs, are measured by the distance
between the two curves; in this case, the highest level of profit is being made at a
production level of 7 or 8. When total costs exceed total revenue, the firm is making
losses at that level of output. When the two lines cross, the firm is making zero profits.
The marginal and average cost curves for this company have their expected shape in
panel B. Marginal costs are constant until a production level of 6, and then they begin to
increase. The average cost curve is U-shaped.
But after 7 violins, average costs begin to increase, as the effect of the increasing
average variable costs dominates the effect of the fixed costs.
Basic Conditions of
Competitive Supply
In choosing how much to produce, a profit-maximizing firm will focus its decision at
the margin. Because it has already incurred the fixed cost of getting into this market,
its decision is generally not the stark one of whether or not to produce, but whether
to produce one more unit of a good or one less. For a firm in a competitive market,
making this choice is relatively easy: the company simply compares the marginal
revenue it will receive by producing an extra unit—which is just the price of the
good—with the extra cost of producing that unit, the marginal cost. As long as the
marginal revenue exceeds the marginal cost, the firm will make additional profit by
producing more. If marginal revenue is less than marginal cost, then producing an
extra unit will cut profits, and the firm will reduce production. In short, the firm will
produce to the point where the marginal cost equals marginal revenue, which in a
competitive market is equal to price.
158 ∂ CHAPTER 7 THE COMPETITIVE FIRM