Final answer:
When price is greater than marginal cost in a competitive market, the firm should increase production to maximize profit until the price (MR) equals MC. Conversely, if marginal costs exceed marginal revenue, the firm should reduce output to where MR = MC.
Step-by-step explanation:
Profit Maximization in a Competitive Market
When the price is greater than marginal cost for a firm in a competitive market, the opportunity exists to increase profit by increasing production. The firm should continue to produce more until the price, which equals marginal revenue (MR), is equal to the marginal cost (MC). At this point, each additional unit of output adds exactly as much to cost as it does to revenue, meaning profit is maximized.
If the market price rises, leading to an increase in marginal revenue, the firm should increase output up to the point where the new price equals marginal cost. Conversely, if a firm produces at a quantity where marginal costs exceed marginal revenue, then the firm should reduce output until MR = MC to maximize profits. This will ensure that the firm is not incurring higher costs for additional units that do not add proportionately to revenues.