Discuss the shutdown rule and the implications to a firm. Contrast variable cost

Question

Discuss the shutdown rule and the implications to a firm.

Contrast variable costs and fixed costs.

Explain the importance of the short run Average Total Cost curve.

Why do economists believe the market structure of perfect competition to be efficient?

Choose either: perfect competition, monopolistic competition, oligopoly, or monopoly and discuss the driving characteristics of that market structure.

Give an example and discuss the importance of a specific Anti-trust policy.

Define the concept of derived demand in relation to the labor market.

What is the difference between a craft union and a collective union.

Explain the Lorenz curve.

Would you consider wealth to be a flow variable or a stock variable and state the difference between them.

Explanation / Answer

         ANSWERS ;

1) SHUTDOWN RULE AND ITS IMPLICATIONS TO A FIRM ;

   Shutdown is a situation or a lavel of production at which the firm experiences no profit for continuing production process, and decides to shutdown temporarily (or permanently). Technically, shutdown occours if marginal revenue (MR) is below average variable cost (AVC) at the profit mazimizing positive lavel of production.

      The rationale for the rule is simple and straightforword. By shutting down a firm avoids all variable costs . However the firm must still pay fixed costs. Because fixed costs must be paid regardless of weither a firm operates they should not be considered in deciding wheter to produce or shut down.

     Thus in determining whether to shutdown a firm should compare total revenue (TR) to total variablecost (TVC) rather than total cost (TC), {TC = FC + VC}.

If the revenue the firm is receving is greater than its variable costs then the firm is covering all varialbe costs plus there is additional revenue which partially or entirely offsets fixed costs . On the other hand if the revenue is less than the variable costs then the firm is not even covering its production costs and it ssould immediately SHUT DOWN.

2) VARIABLE COSTS AND FIXED COSTS;

Variable costs are those costs which are incurred on the employment of varaible factors of production whose amount can be altered in the short run. Thus total variable costs change with the changes in output in the short run.

    Fixed costs, on the other hand, are those costs which are incurred in hiring the fixed factors of production whose amount cannot be altered in short run.

3) IMPORTANCE OF SHORT RUN AVERAGE TOTAL COST CURVE (ATC); The average total cost or what is simply called average cost (AC) is the total cost (TC) devided by the number of units of output produced.            

             AC = TC / Q

Short run average total cost curve is U-shaped because of the operation of ''Law of Variable Proportions''. The U shape of the short run ATC curve the regions of rising costs and falling costs thus helps the firm in finding the optimum output lavel to produce.

4) EFFICIENCY IN PERFECT COMPETITION;

Perfect competition is regarded as efficient market stricture because it satisfies two important conditions, one is ''Allocative Efficiency'' and other is ''Productive Efficiency''. These two conditions have important implications. First, resources are allocated to their best alternative use. Second, they provide the maximum satisfaction attainable by society. This is the core reason that perfect competition is regarded as the efficient market stricture.

5) PERFECT COMPETITION;

It is a market stricture characterised by absence rivalry among the individual firms.

CHARACTERISTICS OF PERFECT COMPETITION

a) Large number of sellers and buyers; the market includes large no. of firms, so that each firm supplies only a small part of output offered in the market. The buyers are also numerous so that no monopsonistic power can affect the working of market.

b) Firms producing a homogenious product; all the firms are producing similar and alike products in the market.

c) free entry and exit of firms in the market; there is no barrier to entry or exit from the industry. Entry or exit may take time, but firms have freedom of movements in and out of the industry.

d) Goal of all firms is profit maximisation. ; No other goals otherthan profit maximisation are pursued.

e) No government regulations; There is no government intervention in the market ( like tarrifs, subsidies etc.).

f) Perfect mobility of factors of production. The factors of production are free to move from one firm to another throught the economy.

g) Perfect knowledge.; It is assumed that all the buyers and sellers have compleate knowledge of the conditions of the market.

h) Price taker; Firm under perfect competition is price taker not price maker.

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