Question

The fixed costs of the business are reduced

a. increasing price maximizes profits and decreasing output maximizes profits.
b. whether an increase, decrease or not affects the price or profit-maximizing output, depends on the elasticity of demand.
c. reducing price maximizes profits and increasing output maximizes profits.
d. does not affect price or profit-maximizing output.

Answer 1

The reduction of fixed costs can lead to varied impacts on profit-maximization depending on several market factors, such as elasticity of demand. The firm should aim to align output where marginal revenue equals marginal cost for maximizing profits or minimizing losses.

Step-by-step explanation:

The fixed costs of a business, when reduced, have varying impacts on the profit-maximizing output and prices, depending on the market conditions such as elasticity of demand and whether total costs are held constant or not. If marginal costs exceed marginal revenue (MR), the firm will reduce its profits for every additional unit of output, hence the profit-maximizing strategy would be to reduce output to the point where MR equals marginal cost (MC).

In a scenario where the market price increases, leading to an increase in MR, the firm will increase production to the point where the new price equals MC. This optimizes profits as long as the price is above the average cost. However, if reducing fixed costs leads to a situation where total costs exceed total revenues at all output levels, the firm will suffer losses, seeking the output level where losses are minimized by ensuring total revenues come as close as possible to total costs.