Question

7. How a change in fixed costs affects the profit-maximizing quantity

Valerie owns and operates a hot dog stand in downtown Denver. In order to operate her hot dog stand, regardless of the number of hot dogs sold, Valerie must purchase a permit from the local government in Denver. Valerie's initial profit hill is plotted in green (triangle symbols) on the following graph.

Suppose the price Valerie must pay for a permit decreases by $10 per day.

On the following graph, use the purple diamond symbols to plot Valerie's new profit hill, for 0, 10, 20, 30, 40, 50, 60, and 70 hot dogs, after the decrease in the price of a permit (with all other factors remaining constant).

Note: Plot your points in the order in which you would like them connected. Line segments will connect the points automatically.

Answer 1

Change in fixed costs and profit-maximizing quantity

Step-by-step explanation:

Fixed costs are the costs that a company incurs regardless of the number of units produced or sold. They include things like rent, insurance, and equipment costs.

Profit-maximizing quantity is the quantity of output that a company produces that will maximize its profits. It is the point where marginal revenue equals marginal cost.

When fixed costs decrease, the profit-maximizing quantity will increase. This is because the company will have more money to spend on variable costs, such as the cost of the hot dogs themselves.

Valerie's profit hill

In the graph below, the green triangle symbols represent Valerie's initial profit hill. The purple diamond symbols represent her new profit hill after the price of the permit decreases by $10 per day.

As you can see, the new profit hill is shifted upwards and to the right. This means that Valerie's profits will be higher at all levels of output. The profit-maximizing quantity also increases, from 40 hot dogs to 50 hot dogs.

Graph of Valerie's profit hill

graph showing Valerie's profit hill. The green triangle symbols represent her initial profit hill, and the purple diamond symbols represent her new profit hill after the price of the permit decreases by $10 per day. The profit-maximizing quantity increases from 40 hot dogs to 50 hot dogs.

The graph shows Valerie's profit hill. The green triangle symbols represent her initial profit hill, and the purple diamond symbols represent her new profit hill after the price of the permit decreases by $10 per day. The profit-maximizing quantity increases from 40 hot dogs to 50 hot dogs.

Conclusion

A decrease in fixed costs will lead to an increase in the profit-maximizing quantity. This is because the company will have more money to spend on variable costs, which will allow them to produce more output.