<< Chapter < Page Chapter >> Page >
By the end of this section, you will be able to:
  • Calculate profits by comparing total revenue and total cost
  • Identify profits and losses with the average cost curve
  • Explain the shutdown point
  • Determine the price at which a firm should continue producing in the short run

A perfectly competitive firm has only one major decision to make—namely, what quantity to produce. To understand why this is so, consider a different way of writing out the basic definition of profit :

Profit = Total revenue Total cost           = ( Price ) ( Quantity produced ) ( Average cost ) ( Quantity produced )

Since a perfectly competitive firm must accept the price for its output as determined by the product’s market demand and supply, it cannot choose the price it charges. This is already determined in the profit equation, and so the perfectly competitive firm can sell any number of units at exactly the same price. It implies that the firm faces a perfectly elastic demand curve for its product: buyers are willing to buy any number of units of output from the firm at the market price. When the perfectly competitive firm chooses what quantity to produce, then this quantity—along with the prices prevailing in the market for output and inputs—will determine the firm’s total revenue, total costs, and ultimately, level of profits.

Determining the highest profit by comparing total revenue and total cost

A perfectly competitive firm can sell as large a quantity as it wishes, as long as it accepts the prevailing market price. Total revenue is going to increase as the firm sells more, depending on the price of the product and the number of units sold. If you increase the number of units sold at a given price, then total revenue will increase. If the price of the product increases for every unit sold, then total revenue also increases. As an example of how a perfectly competitive firm decides what quantity to produce, consider the case of a small farmer who produces raspberries and sells them frozen for $4 per pack. Sales of one pack of raspberries will bring in $4, two packs will be $8, three packs will be $12, and so on. If, for example, the price of frozen raspberries doubles to $8 per pack, then sales of one pack of raspberries will be $8, two packs will be $16, three packs will be $24, and so on.

Total revenue and total costs for the raspberry farm, broken down into fixed and variable costs, are shown in [link] and also appear in [link] . The horizontal axis shows the quantity of frozen raspberries produced in packs; the vertical axis shows both total revenue and total costs, measured in dollars. The total cost curve intersects with the vertical axis at a value that shows the level of fixed costs, and then slopes upward. All these cost curves follow the same characteristics as the curves covered in the Cost and Industry Structure chapter.

Total cost and total revenue at the raspberry farm

The graph shows that firms will incur a loss if the total cost is higher than the total revenue.
Total revenue for a perfectly competitive firm is a straight line sloping up. The slope is equal to the price of the good. Total cost also slopes up, but with some curvature. At higher levels of output, total cost begins to slope upward more steeply because of diminishing marginal returns. The maximum profit will occur at the quantity where the gap of total revenue over total cost is largest.

Questions & Answers

what is economics
Julie Reply
what do you mean by means in economics
economic is the wealth of a country.
monetary policy is refer to as being expansionary or contractionary.
important of unemployment
Otwe Reply
Important of unemployed
what is meaning scarcity
what is consumer
Brenda Reply
how do consumer help people
by export trading
How do you mean Jayah
what is different between price and quantity
what is MRS
definition of economics according to Adam Smith
Ijeoma Reply
economic is a wealth of nation
in the view of Adam Smith economics is the study of activities of people in production of wealth
What do you really think is the remedy for scarcity in Nigeria 🇳🇬
John Reply
different the term economics
zfekere Reply
importance of studying economics
Haruna Reply
importance of economics
different the term economics
mixed economic
you have just been appointed in the director of finance for your state internal revenue board with the knowledge of elasticity advice the state government on how the I.G.R of the state could be raised through exercise duties bearing in mind the implication and incident of taxing setting products
Kenechukwu Reply
Hello,Thanks for your replay
mention 5 characteristics of traditional societies
Pono Reply
dominance of agriculture and ignorance of development avenues are some characteristics of traditional societies.
what's defined as unemployment
Lyrikal Reply
what is elasticity
Olakunle Reply
Elasticity is defined as the degree of responsiveness of quantity demanded to slight change in price, cost of other products and income of consumer.....
elasticity simply means change. it is the degree of responsiveness of quantity demanded of a commodity to changes in the price of a commodity
what is monetary policy
Monetary Policy; is the objectives of the central bank in exercising its control over money, interest rates, and credit conditions.
So does it mean that ceteris paribus is the same as all other things being equal?
Ghabbie Reply
Yes nothing else has been changed
ways by which trade unoins raise wage of it's members
Ngu Reply
what is economic growth
Victor Reply
increase a amount of goods and services produced as per head of population a period of time
Economic growth and development has been defined in so many ways by various economist. At a time past, people started raising questions about having economic growth as the same in meaning development. They do not mean the same thing but they are however interdependent and inter related.
For economic development is not possible without economic growth but economic growth is possible without economic development. For example, when there is an observed increase in GDP from 3 million to 4 million over a period of 5 years, we say that there is economic growth.

Get the best Principles of economics course in your pocket!

Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
Google Play and the Google Play logo are trademarks of Google Inc.

Notification Switch

Would you like to follow the 'Principles of economics' conversation and receive update notifications?