A monopoly firm is charging $14 (the price the market will bear) at a level of output where MC equals $7 and is increasing, MR equals $7, and average variable cost equals $15. To maximize profits, what action should the firm take?

Question

Quizplus · Accepted Answer

A monopolist firm maximizes profit where marginal revenue (MR) equals marginal cost (MC). In this case, the MR and MC both equal $7 at the given output level.

However, the firm is currently producing at a level where its average variable cost (AVC) exceeds the price it charges ($15 > $14). This means that the firm is not covering its variable costs, let alone its fixed costs, which would result in losses.

Therefore, the firm should shut down at least temporarily to avoid further losses. Shutting down would mean that the firm incurs zero variable costs (since it does not produce anything), and would allow it to re-evaluate its pricing and production strategies before resuming operations.

A Monopoly Firm Is Charging $14 (The Price the Market