Short run profit Maximisation in perfect competition:

A perfectly competitive firm will choose to produce an output where
1. MC = MR = P
2. MC curve cuts MR from below.

Mc Curve below MR means at such points Marginal Cost <> MR, then it means we are incurring more costs then the revenue earned or profit is negative as ∆Π /∆q = ∆R/∆q – ∆C /∆q i.e. change in profit = MR- MC )

Short run profit Maximisation

1. Super Normal Profit

In short run, we have fixed as well as variable factors of production. In short run, a firm maximizes its profit by choosing an output at which MC=MR=price .
the profit is measured by the difference in AC and AR and competing the rectangle. The Profit earned is super normal profit in this case. Because AC< onblur="try {parent.deselectBloggerImageGracefully();} catch(e) {}" href="http://4.bp.blogspot.com/_nWTlTPsBse4/SST_e81a0_I/AAAAAAAAAJY/4ldDkh0kXpc/s1600-h/snp-pc.JPG">
  • E is the equilibrium situation in perfect competition.
  • At E, MC= MR.A firm will produce its output till point E only because it maximizes its profit.
  • AR=MR=P. (AR-AC) tells the average profit( profit for a unit) and
  • to know total profit we have to multiply average profit with the number of units sold(q). So, EACD is the profit that a firm will earn in short run.

2. Loss in Short Run

Not all firms make supernormal profits in the short run. Their profits depend on the position of their short run cost curves. Some firms may be experiencing Losses because their average costs exceed the current market price. Other firms may be making normal profits where total revenue equals total cost (i.e. they are at the break-even output). In the diagram below, the firm shown has high costs such that the market price is below the average cost curve. At the profit maximising level of output, the firm is making an economic loss .




  • E is the equilibrium point. At this point MR= MC.
  • Drawing a straight line from E to AC curve gives us the cost of the product.
  • Here, AC > AR(or price). So, the firm is incurring losses.
  • A firm should shut down its production if it is incurring losses. Here AQ1 is the cost to the firm and EQ1 is the price of the product.

3. Normal Profit in short run.
In short run, some firms may be making normal profits where total revenue equals total cost (i.e. they are at the break-even output). In the diagram below, At equilibrium ,the firm has same costs such that the market price is equal to the average cost curve. At the profit maximising level of output, the firm is making an normal profits .



  • E is the equilibrium point. At this point MR= MC.
  • Drawing a straight line from E to AC curve gives us the cost of the product.
  • Here, AC =AR(or price). So, the firm is incurring normal profit

** when we talk about cost of production, it includes the value of money paid for all the factors of production and entrepreneur ‘s normal profit becomes a part of cost .


2 comments:

Svmlsteels Pvtltd said...

Very good mam.easy to understand.
Am preparing for cfa could u PL help me over phone regarding my doubts.
Regards
Nbvsreddy.

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