Suppose product price is fixed at $24; MR = MC at Q = 200; AFC = $6; AVC = $25. What do you advise this firm to do?
A) Increase output.
B) Decrease output.
C) Shut down operations.
D) Stay at the current output; the firm is earning a profit of $1,400.
E) Stay at the current output; the firm is losing $1,400.

Question

Quizplus · Accepted Answer

The firm's AVC ($25) is greater than the price ($24) and thus the firm is making a loss on each unit produced. As the firm is already producing at the profit maximization point (where MR=MC) and it is still making a loss, it is better to shut down operations in the short run, since the firm can avoid variable costs (VC) and minimize its losses. The firm's AFC is irrelevant to the decision to shut down since AFC is sunk and cannot be recovered.

Suppose Product Price Is Fixed at $24; MR = MC