The owner of Tie-Dyed T-shirts, a perfectly competitive firm, has hired you to give him some economic advice. He has told you that the market price for his shirts is $20 and that he is currently producing 200 shirts at an AVC of $15 and an ATC of $25. What would you recommend to him?
A) To continue producing in the short run, as his loss from production is less than his fixed costs, but to exit the industry in the long run if there are no changes in economic conditions.
B) To shut down in the short run, as he is incurring a loss, and to leave the industry in the long run, if there are no changes in economic conditions.
C) To continue to produce in the short run, even though he is earning a loss, and to expand in the future with the hope of increasing market share and total revenue.
D) You tell him you cannot make any recommendations until you know what his fixed costs are.

Question

Quizplus · Accepted Answer

In the short run, the firm should continue producing as long as the price covers the average variable cost (AVC), which is $20 > $15. This means the firm is covering its variable costs and contributing to fixed costs, minimizing losses. However, since the average total cost (ATC) is $25, which is higher than the market price, the firm is not covering its total costs in the long run, suggesting it should exit the industry if conditions don't change.

The Owner of Tie-Dyed T-Shirts, a Perfectly Competitive Firm, Has