Question

Suppose that a monopolistically competitive restaurant is currently serving 260 meals per day (the output where MR = MC). At that output level, ATC per meal is $10, and consumers are willing to pay $12 per meal.

a) What is the size of this firm's profit or loss?

b) Will there be entry or exit? Will this restaurant's demand curve shift left or right?

c) Assume that the allocatively efficient output level in long-run equilibrium is 210 meals. In long-run equilibrium, suppose that this restaurant charges $11 per meal for 180 meals and that the marginal cost of the 180th meal is $8. What is the size of the firm's profit?

Answer 1

a. Profit; $520

b. Firms will enter; Left

c. Zero profits or normal profits

Step-by-step explanation:

A restaurant is operating in a monopolistic competitive market.

The restaurant is producing 260 meals per day.

This is the profit maximizing level of output where the marginal cost is equal to marginal revenue.

The average total cost at this point is $10.

The price level is $12.

The profit or loss to the restaurant will be equal to the difference between total revenue and total cost.

a. Profit

= Total Revenue - Total cost

= $12
`*` 260 - $10
`*` 260

= $3,120 - $2,600

= $520

b. This supernormal profit will attract other firms to enter the market, as a result the market share of existing firms will decline. The demand curve of the restaurant will move to the left.

c. In the long run, the firms in a perfectly competitive market earn only zero economic profits as positive profits attract new firms and negative profits cause the firms to leave.

So the restaurant will have zero or normal profits in the long run.