Final answer:
The firm is maximizing profit by producing 20 units since price equals marginal cost. The firm earns a total profit of $20, not $80, and there is no indication it should shut down as it's covering its average variable costs and making a profit.
Step-by-step explanation:
A perfectly competitive firm that produces and sells 20 units of output at a market price of $4, with average fixed costs (AFC) of $1, average variable costs (AVC) of $2, and a marginal cost (MC) of $4, is in a specific position with regards to profit maximization and operations.
Given these costs, we can calculate the total costs (TC) for producing 20 units by adding the total fixed costs (TFC), which is AFC multiplied by the quantity, and the total variable costs (TVC), which is AVC multiplied by the quantity. Then, we can determine the total profit by subtracting the total costs from total revenues (TR), which is the price multiplied by the quantity.
In this case, TR would be 20 units times $4, which equals $80. Total costs would be ($1 + $2) times 20, which equals $60. The total profit for the firm would be $80 - $60, which equals $20.
The fact that the marginal cost equals the price ($4) suggests that the firm is maximizing total profit by producing and selling 20 units because in perfect competition, profit maximization occurs where P = MR = MC.
Therefore, response (2) is not correct, responses (3) and (1) are correct, and response (4) is not correct because the firm should not shut down as it is making a profit, and should continue to operate as long as price covers the average variable cost.