Final answer:
The Tidewater Company should reduce its inventory of fresh flowers due to increased storage costs, which would consequently increase the risk of running out of inventory given the same demand levels.
Step-by-step explanation:
Considering the Tidewater Company's situation of using 100,000 pounds of fresh flowers each year and facing increased energy costs for storage, the question pertains to inventory levels and the associated risk of running out of inventory. In a perfectly competitive market where P (Price) equals MC (Marginal Cost), producing less quantity implies that marginal costs are lower because they have not increased as much, hence P > MC.
This indicates that the benefit to society is greater than the cost of production. If Tidewater were to reduce its inventory of fresh flowers, this would indeed increase the risk of running out of inventory because there would be fewer flowers on hand to meet demand. This scenario fits the pattern where a reduction in input costs, such as those seen by companies with falling gasoline prices, can allow companies to supply more of their services or goods. However, in the case of Tidewater, the decision to lower inventory levels is driven by the need to manage higher storage costs, not by a reduction in input costs.
The correct answer to the student's question is: A. reduce; increase. By reducing their inventory of fresh flowers, Tidewater would indeed increase the risk of running out of inventory, particularly if demand remains constant or increases.