Write whether each statement is True or False. Please fully explain your answers
ID: 1226430 • Letter: W
Question
Write whether each statement is True or False. Please fully explain your answers. No credit will be given for an answer without an explanation.
(a) Two competitive firms have the same technology and must pay the same wages for labour. They have identical factories, but Firm 1 paid a higher price for its factory than did Firm 2. If they are both profit maximizers and have upward sloping marginal cost curves, then we would expect Firm 1 to have a higher output than Firm 2. (5 marks)
(b) Mr. Cherry has a cost function of c(x) = x2 + 100 if his output is x, is positive, but c(x) = 0 when x is 0. If the price of output is lower than 20, and Mr. Cherry is a competitive profit-maximizer, he will produce zero output. (5 marks)
(c) In a perfectly competitive market, firms take the market price as a given, which implies that the market demand is infinitely elastic. (5 marks)
(d) A market with barriers to entry may not be characterized by production at the mini- mum efficient scale in the long run. (5 marks)
Explanation / Answer
(a) FALSE
In profit-maximizing equilibrium,
Price x Marginal product of labor (MPL) = Wage rate
P x MPL = w
For firm 1, Price is higher. Since wages are same for both firms, it means that MPL of firm 1 is lower than MPL of firm 2, i.e. firm 1 is expected to have a lower output than firm 2.
(b) FALSE
c(x) = x2 + 100
Marginal cost, MC = dc(x) / dx = 2x
A competitive profit maximizer equates price with MC. So, when P < 20,
2x < 10
x < 5
He will produce an output less than 5 units, which does not mean 0 units.
(c) FALSE
Firm demand curve is infinitely elastic, being horizontal, but market demand is downward sloping, so it is not infinitely elastic.
(d) TRUE
Since there is barrier to entry, competition is low and the firm need not produce at minimum efficient scale, i.e. at lowest point of average total cost curve due to competitive forces.
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