Question

November 5 1. Bob's Lawn-mowing service is a profit-maximizing competitive firm. Bob mows lawns for $30 each He mows 10 lawns a day (which, again, maximizes his profits). At this quantity, his total cost each day is $700, of which $600 is a fixed cost. (a) Calculate his profits. Show your work! (b) Should Bob shut down in the short run (say, tomorrow)?? Should Bob leavelexit the industry in the long run?? EXPLAIN

Answer 1

Profit$=\left ( P-ATC \right )Q$.

$ATC=TC/Q$.

   $=700/10$ .

  .

70

Profit $=\left ( 30-70 \right )10$

$=-40\times 10$.

$=-400$.

The firm is suffering a loss of $400.

b). The shutdown point is where the price equals the average variable cost, if the price is below the average variable cost the firm should shutdown the production. This is because the firm even can't cover variable cost, so it is better to shutdown. If the price is above the average variable cost the firm can continue production in the short run and not in the long run, in the long run the firm should earn a normal profit to sustain. This is where the price equals the average total cost (normal profit).

$AVC=TVC/Q$.

$TVC=TC-TFC$.

$TVC=700-600$.

$=100$.

.

$=10.$

Here the price is clearly above the average variable cost so the firm can produce in short run and not in the long run.