Chap 14

Chapter 14
Firms in Competitive Markets

MULTIPLE CHOICE
1
. A market is competitive if
(i) each buyer is small compared to the market.
(ii) each seller is small compared to the market.
(iii) firms have the flexibility to price their own product.
a. (i) and (ii) only
b. (i) and (iii) only
c. (ii) and (iii) only
d. all of the above
ANSWER: a. (i) and (ii) only
TYPE: M KEY1: D SECTION: 1 OBJECTIVE: 1 RANDOM: Y
2
. When a firm has little ability to influence market prices it is said to be in what kind of a market?
a. A strategic market.
b. A competitive market.
c. A power market.
d. A thin market.
ANSWER: b. A competitive market.
~ANSWER:
~ANSWER:
b. A competitive market.
Harcourt, Inc. items and derived items copyright © 2001 by Harcourt, Inc. 1
2 Chapter 14/Firms in Competitive Markets
3
. When a firm has market power, it can
a. sell as much as it wants at any market price.
b. control the number of firms that will operate in an industry.
c. influence the market price of the good it sells.
d. choose to disregard government regulation.
ANSWER: c. influence the market price of the good it sells.
4
. In a competitive market, the actions of any single buyer or seller will
a. cause a noticeable change in overall production and a change in final product price.
b. have little effect on overall production but will ultimately change final product price.
c. have a negligible impact on the market price.
d. adversely affect the profitability of more than one firm in the market.
ANSWER: c. have a negligible impact on the market price.
~ANSWER:
c. influence the market price of the good it sells.
~ANSWER:
c. have a negligible impact on the market price.
Harcourt, Inc. items and derived items copyright © 2001 by Harcourt, Inc.
Chapter 14/Firms in Competitive Markets 3
Use the information in the table below to answer questions 5 through 8.

Quantity Price
1 13
2 13
3 13
4 13
5 13
6 13
7 13
8 13
9 13
5
. The price and quantity relationship in the table is most likely that faced by a firm in a
a. monopoly.
b. concentrated market.
c. strategic market.
d. competitive market.
ANSWER: d. competitive market.
TYPE: M KEY1: T SECTION: 1 OBJECTIVE: 2 INSTRUCTION: 1 RANDOM: N
6
. Over which range of output is average revenue equal to price?
a. 1 to 5
b. 3 to 7
c. 5 to 9
d. average revenue is equal to price over the whole range of output.
ANSWER: d. average revenue is equal to price over the whole range of output.
~ANSWER:
d. competitive market.
~ANSWER:
d. average revenue is equal to price over the whole range of output.
7
. Over what range of output is marginal revenue declining?
a. None; marginal revenue is constant over the whole range of output.
b. 1 to 6
c. 3 to 7
d. 7 to 9
ANSWER: a. None, marginal revenue is constant over the whole range of output.
8
. If the firm doubles its output from 3 to 6 units, total revenue will
a. increase by less than $39.
b. increase by more than $39.
c. increase by exactly $39.
d. We cannot tell from the information provided.
ANSWER: c. increase by exactly $39.
9
. For a firm in a perfectly competitive market the price of the good is always equal to
a. marginal revenue.
b. average revenue.
c. equilibrium market price.
d. all of the above.
ANSWER: d. all of the above.
TYPE: M KEY1: C SECTION: 1 OBJECTIVE: 1 RANDOM: Y
~ANSWER:
a. None, marginal revenue is constant over the whole range of output.
~ANSWER:
c. increase by exactly $39.
~ANSWER:
10
. For a firm in a perfectly competitive market, if the amount sold triples, the resulting change to total
revenue will be
a. less than triple.
b. exactly triple.
c. more than triple.
d. All of the above are potentially true.
ANSWER: b. exactly triple.
11
. Total profit for a firm is calculated by
a. total revenue minus total cost.
b. marginal revenue minus average cost.
c. average revenue minus average cost.
d. marginal revenue minus marginal cost.
ANSWER: a. total revenue minus total cost.
Use the information for a competitive firm in the table below to answer questions 12 through17.
Quantity Total Revenue Total Cost

0 $0 $ 10
1 9 14
2 18 19
3 27 25
4 36 32
5 45 40
6 54 49
7 63 59
8 72 70
9 81 82
10
~ANSWER:
b. exactly triple.
11
~ANSWER:
a. total revenue minus total cost.
12
. At a production level of 3 units which of the following is true?
a. Fixed cost is zero.
b. Marginal cost is $6.
c. Total revenue is less than variable cost.
d. Marginal revenue is less than marginal cost.
ANSWER: b. Marginal cost is $6.
13
. At which level of production is average revenue equal to marginal cost?
a. 1
b. 3
c. 6
d. 8
ANSWER: c. 6
14
. If this firm chooses to maximize profit it will choose a level of output where marginal cost is equal
to
a. 5.
b. 7.
c. 9.
d. 11.
ANSWER: c. 9.
15
. The maximum profit available to this firm is
a. $2.
b. $3.
c. $4.
d. $5.
ANSWER: d. $5.
16
. If the firm finds that its marginal cost is $11, it should
a. increase production to maximize profit.
b. decrease production to maximize profit.
c. maintain its current level of production to maximize profit.
d. advertise to find additional buyers.
ANSWER: b. decrease production to maximize profit.
17
. If the firm finds that its marginal cost is $5, it should
c. maintain its current level of production to maximize profit.
d. reduce fixed costs by lowering production.
ANSWER: a. increase production to maximize profit.
18
. Comparing marginal revenue to marginal cost
(i) reveals the contribution of the last unit of production to total profit.
(ii) is helpful in making profit maximizing production decisions.
(iii) always reveals whether a firm is making an economic profit.
(iv) tells a firm whether its fixed costs are too high.
b. (iii) only
d. all of the above
19
. If marginal cost exceeds marginal revenue
a. the firm must be experiencing losses.
b. the firm may still be earning a profit.
c. the firm is most likely to be at a profit maximizing level of output.
d. a profit maximizing firm should always increase the level of production.
ANSWER: b. the firm may still be earning a profit.
20
. When marginal revenue equals marginal cost
a. the firm must be generating economic profits.
b. the profit maximizing firm should always increase its level of production.
c. the firm must be generating economic losses.
d. losses may be minimized, rather than profits being maximized.
ANSWER: d. losses may be minimized, rather than profits being maximized.
21
. When firms think at the margin and make incremental adjustments to the level of production they
are naturally led to a level of production where
a. average variable cost exceeds marginal cost.
b. costs are minimized.
c. profit is maximized.
d. total cost is less than average revenue.
ANSWER: c. profit is maximized.
22
. As a general rule, profit maximizing producers in a competitive market produce output at a point
where
a. marginal cost is decreasing
b. marginal revenue is increasing
c. marginal cost is increasing
d. price is less than marginal revenue
ANSWER: c. marginal cost is increasing
23
. The Wheeler Wheat Farm sells wheat to a grain broker in Seattle, Washington. Since the market for
wheat is generally considered to be competitive, the Wheeler Farm
a. does not choose the quantity of wheat to produce.
b. does not have any fixed costs of production.
c. is not able to earn an accounting profit.
d. does not choose the price at which it sells its wheat.
ANSWER: d. does not choose the price at which it sells its wheat.
23
~ANSWER:
d. does not choose the price at which it sells its wheat.
12
~ANSWER:
b. Marginal cost is $6.
13
~ANSWER:
c. 6.
14
~ANSWER:
c. 9.
15
~ANSWER:
d. $5.
24
. The Wheeler Wheat Farm sells wheat to a grain broker in Seattle, Washington. Since the market for
wheat is generally considered to be competitive, the Wheeler Wheat Farm maximizes profit by
choosing
a. to produce the quantity at which average fixed cost is minimized.
b. to sell its wheat at a price where marginal cost is equal to average total cost.
c. the quantity at which market price is equal to the farm's marginal cost of production.
d. to minimize its average total cost.
ANSWER: c. the quantity at which market price is equal to the farm's marginal cost of production.
16
~ANSWER:
17
~ANSWER:
18
~ANSWER:
19
~ANSWER:
b. the firm may still be earning a profit.
20
~ANSWER:
d. losses may be minimized, rather than profits being maximized.
21
~ANSWER:
25
. If a firm in a competitive market increases production and its marginal revenue remains positive,
raising production will
a. be profitable.
b. cause the firm to incur losses.
c. leave profit unchanged.
d. It is impossible to tell from the information provided.
ANSWER: d. It is impossible to tell from the information provided.
c. profit is maximized.
22
~ANSWER:
c. marginal cost is increasing
24
~ANSWER:
c. the quantity at which market price is equal to the farm's marginal cost of production.
25
~ANSWER:
d. It is impossible to tell from the information provided.
26
. Because the goods offered for sale in a competitive market are largely the same,
a. there will be few sellers in the market.
b. there will be few buyers in the market.
c. sellers will have little reason to charge less than the going market price.
d. buyers will have market power.
ANSWER: c. sellers will have little reason to charge less than the going market price.
27
. Which of the following is not a characteristic of a perfectly competitive market?
a. Firms are price takers.
b. There are many sellers in the market.
c. Goods offered for sale are largely the same.
d. Firms have difficulty entering the market.
ANSWER: d. Firms have difficulty entering the market.
28
. When buyers in a competitive market take the selling price as given, they are said to be
a. free riders.
b. market entrants.
c. price takers.
d. monopolists.
ANSWER: c. price takers.
28
~ANSWER:
c. price takers.
26
~ANSWER:
c. sellers will have little reason to charge less than the going market price.
27
~ANSWER:
d. Firms have difficulty entering the market.
29
. When firms are said to be price takers, it implies that if a firm raises its price,
a. buyers will go elsewhere.
b. buyers will pay the higher price in the short run.
c. competitors will also raise their prices.
d. firms in the industry will exercise market power.
ANSWER: a. buyers will go elsewhere.
30
. Which of the following statements best reflects a price-taking firm?
a. If the firm were to charge more than the going price, it would sell none of its goods.
b. The firm has no incentive to charge less than the going price.
c. The firm can sell as much as it wants at the going price.
d. all of the above
31
. In a competitive market, no single producer can influence the market price because
a. many other sellers are offering a product that is essentially identical.
b. consumers have more influence over the market price than producers do.
c. producers agree not to change the price.
d. government intervention prevents firms from influencing price.
ANSWER: a. many other sellers are offering a product that is essentially identical.
The graph below depicts the cost structure for a firm in a competitive market. Use the graph to answer
questions 32 through 36.
31
~ANSWER:
a. many other sellers are offering a product that is essentially identical.
32
. When marginal revenue is equal to MC3, the profit maximizing firm will produce what level of
output?
a. Q1
b. Q2
c. Q3
d. Q4
ANSWER: c. Q3
TYPE: M KEY1: G SECTION: 2 OBJECTIVE: 2 GRAPH FORMAT: M QUESTION INSTRUCTION: 2
RANDOM: N
32
~ANSWER:
c. Q3
RANDOM: N
29
~ANSWER:
a. buyers will go elsewhere.
30
~ANSWER:
d. all of the above
33
.
When market price is at MC2, a firm producing output level Q1 would experience
a. profits equal to (MC2 - MC1)  Q1.
b. zero profits.
c. losses equal to (MC2 - MC1)  Q1.
d. losses because P < ATC.
ANSWER: d. losses because P < ATC.
RANDOM: N
34
. When market price is at MC4, a profit maximizing firm will produce what level of output?
a. Q1
b. Q2
c. Q3
d. Q4
ANSWER: d. Q4
RANDOM: N
33
~ANSWER:
d. losses because P < ATC.
RANDOM: N
34
~ANSWER:
d. Q4
RANDOM: N
35
. What price level will leave the profit maximizing firm with zero profits?
a. MC1
b. MC2
c. MC3
d. MC4
ANSWER: b. MC2
RANDOM: N
36
. Which of the following is a reason why a competitive firm might choose to set its price below the
market price?
a. Because this would result in higher profits.
b. Because this would result in lower total costs.
c. Because this would result in higher average revenue.
d. none of the above
ANSWER: d. none of the above
35
~ANSWER:
b. MC2.
RANDOM: N
36
~ANSWER:
37
. Of the following characteristics of competitive markets, which are necessary for firms to be price
takers?
(i) Many sellers.
(ii) Goods offered for sale are largely the same.
(iii) Firms can freely enter or exit the market.
b. (iii) only
d. All are necessary.
38
. When you buy a product from a firm in a competitive market, the price you pay for the product is
likely to be
a. greater than the marginal revenue of the firm.
b. less than the average revenue of the firm.
c. close to the cost of producing the product.
ANSWER: c. close to the cost of producing the product.
37
~ANSWER:
38
~ANSWER:
c. close to the cost of producing the product.
39
. When a firm in a competitive market produces 10 units of output, it has a marginal revenue of
$5.00. What would be the firm's total revenue when it produces 3 units of output?
a. $15
b. $50
c. $65
d. Cannot be determined from the information given.
ANSWER: a. $15
TYPE: M KEY1: E SECTION: 1 OBJECTIVE: 2 RANDOM: Y
40
. When a firm in a competitive market receives $500 in total revenue, it has a marginal revenue of
$10. What is the average revenue, and how many units were sold?
a. $10 and 50
b. $10 and 100
c. $5 and 100
d. Cannot be determined from the information given.
ANSWER: a. $10 and 50
39
~ANSWER:
a. $15
40
~ANSWER:
a. $10 and 50
41
. A firm in a competitive market produces and sells 500 door knobs at a price of $10 each. It then
chooses to increase its output to 1,000 door knobs. After the increase in output, its average revenue
will
a. decrease.
b. increase.
c. equal $10.
d. fall below marginal revenue.
ANSWER: c. equal $10.
42
. Whenever a perfectly competitive firm chooses to change its level of output, its marginal revenue
a. is unchanged.
b. increases.
c. decreases.
d. increases if MR < ATC and decreases if MR > ATC.
ANSWER: a. is unchanged.
43
. When calculating marginal cost, what must the firm know?
a. fixed cost
b. sunk cost
c. variable cost
d. all of the above
ANSWER: c. variable cost
41
~ANSWER:
c. equal $10.
42
~ANSWER:
a. is unchanged.
43
ANSWER:
c. variable cost
44
. The additional revenue a firm in a competitive market receives if it increases its production by one
unit equals its
a. average revenue.
b. price.
c. marginal revenue.
d. all of the above
ANSWER: d. all of the above
The graph below depicts the cost structure for a firm in a competitive market. Use the graph to answer
45
. When price rises from P2 to P3, the firm finds that
a. marginal revenue exceeds marginal cost at a production level of Q2.
b. if it produces at output level Q3 it will earn zero profit.
c. expanding output to Q4 would leave the firm with losses.
d. all of the above
44
~ANSWER:
d. all of the above
45
~ANSWER:
d. all of the above
46
. When price falls from P3 to P1, the firm finds that
a. fixed cost is higher at a production level of Q1 than it is at Q3.
b. it is unwilling to produce any output.
c. it should produce Q1 units of output.
d. all of the above
ANSWER: b. it is unwilling to produce any output.
47
. When price rises from P3 to P4, the firm finds that
a. average revenue exceeds marginal revenue at a production level of Q4.
b. fixed costs are lower at a production level of Q4.
c. it can earn profits by increasing production to Q4.
d. profits are maximized at a production level of Q3.
ANSWER: c. it can earn profits by increasing production to Q4.
48
. Which of the following statements best reflects the situation faced by the firm when price falls from
P4 to P2?
a. Marginal revenue is lower than marginal cost at the previous level of output, so it decreases
production.
b. Marginal revenue is higher than marginal cost at the previous level of output, so it increases
production.
c. Average total cost is lower than at the previous level of output so it increases production.
d. The firm will earn profit equal to (P4 - P2)  Q2.
ANSWER: a. Marginal revenue is lower than marginal cost at the previous level of output, so it
decreases production.
49
. If a firm in a competitive market reduces its output by 20 percent, the price of its output is likely to
a. increase by more than 20 percent.
b. fall by more than 20 percent.
c. remain unchanged.
d. it is impossible to determine without more information.
ANSWER: c. remain unchanged.
50
. Changes in the output of a perfectly competitive firm will impact
a. price.
b. marginal revenue.
c. average revenue.
d. total revenue.
ANSWER: d. total revenue.
51
. A profit maximizing firm in a competitive market will always make marginal adjustments to
production as long as
a. average revenue is greater than average total cost.
b. price is above or below marginal cost.
c. average revenue is equal to marginal cost.
d. marginal cost is greater than average total cost.
ANSWER: b. price is above or below marginal cost.
52
. When price is greater than marginal cost for a firm in a competitive market,
a. there are opportunities to increase profit by increasing production.
b. the firm should decrease output to maximize profit.
c. marginal cost must be falling.
d. the firm must be minimizing its losses.
ANSWER: a. there are opportunities to increase profit by increasing production.
53
. If rational, profit maximizing firms (like rational people) think at the margin, then marginal
adjustments to production
a. should always lower cost.
b. will increase market share of the firm.
c. should always increase profit (or decrease loss).
d. will increase homogeneity in the market.
ANSWER: c. should always increase profit (or decrease loss).
54
. The short-run supply curve for a firm in a perfectly competitive market
a. is determined by forces external to the firm.
b. is reflected in its marginal cost curve (above average variable cost).
c. will be influenced by the magnitude of fixed costs.
d. is likely to slope downward.
ANSWER: b. is reflected in its marginal cost curve (above average variable cost).
55
. When a perfectly competitive firm makes a decision to shut down, it is most likely that
a. marginal cost is above average variable cost.
b. price is below the minimum of average variable cost.
c. fixed costs exceed variable costs.
d. average fixed costs are rising.
ANSWER: b. price is below the minimum of average variable cost.
56
. When a firm makes a short-run decision not to produce anything during a specified period of time
because of current market conditions, they
a. shut down.
b. exit.
c. are said to experience closure.
d. leave the industry.
ANSWER: a. shut down
57
. Firms that shut down in the short run are unable to avoid their
a. fixed costs.
b. intermediate costs.
c. variable costs.
d. marginal cost.
ANSWER: a. fixed costs.
58
. When total revenue is less than total variable cost, a firm in a competitive market will
a. shut down.
b. continue to operate as long as average revenue exceeds marginal cost.
c. continue to operate as long as average revenue exceeds average fixed cost.
d. always exit the industry.
ANSWER: a. shut down.
59
. When price is below average variable cost, a firm in a competitive market will
a. continue to operate as long as average revenue exceeds average fixed cost.
b. shut down and incur both variable and fixed costs.
c. continue to operate as long as average revenue exceeds marginal cost.
d. shut down and incur fixed costs.
ANSWER: d. shut down and incur fixed costs.
60
. In 1999, sheepherders in the western United States slaughtered 10,000 sheep and buried them in
large open pits rather than truck them to the market to be sold. This behavior is most likely
explained by
a. irrational behavior of sheepherders.
b. sheepherders making a shut down decision to save the variable cost of transporting sheep to a
slaughter house.
c. sheepherders making an exit decision to recover the fixed cost of raising the sheep.
d. the rising marginal cost of producing sheep.
ANSWER: b. sheepherders making a shut down decision to save the variable cost of transporting
sheep to a slaughter market.
The figure below depicts the cost structure of a profit maximizing firm in a competitive market. Use the
figure to answer questions 61 through 62.
61
. Which line segment best reflects the short-run supply curve for this firm?
a. ABC
b. BCD
c. CDE
d. DE
ANSWER: c. CDE.
RANDOM: N
62
. If the firm is in a short-run position where P < AVC, it is most likely to be on what segment of it's
supply curve?
a. BC
b. CD
c. DE
ANSWER: d. none of the above
RANDOM: N
61
~ANSWER:
c. CDE.
RANDOM: N
The figure below depicts the cost structure of a profit maximizing firm in a competitive market. Use the
63
. Which line segment best reflects the long-run supply curve for this firm?
a. AB
b. CD
c. DE
d. None of the above, the long-run supply curve requires knowledge of the average variable cost
structure.
ANSWER: b. CD
TYPE: M KEY1: G SECTION: 2 OBJECTIVE: 5 GRAPH FORMAT: M RANDOM: N
64
. This firm will exit the market for any price on the line segment
a. AB.
b. BC.
c. CD.
d. none of the above.
ANSWER: a. AB.
65
. When economists refer to a production cost that has already been committed and cannot be
recovered, they use the term
a. opportunity cost.
b. variable cost.
c. sunk cost.
d. explicit cost.
ANSWER: c. sunk cost.
66
. A profit maximizing firm in a competitive market produces small rubber balls. When the market
price for small rubber balls falls below the minimum of its average total cost, but still lies above the
minimum of average variable cost,
a. the firm will be earning both economic and accounting profits.
b. the firm will experience losses but will continue to produce rubber balls.
c. the firm will not reduce its production of rubber balls.
d. the firm should raise the price of its product.
ANSWER: b. the firm will experience losses but will continue to produce rubber balls.
67
. Which of the following statements best reflects the production decision of a profit maximizing firm
in a competitive market when price falls below the minimum of average variable cost?
a. The firm will immediately stop production to minimize its losses.
b. The firm will continue to produce to attempt to pay fixed costs.
c. The firm will stop production as soon as it is able to pay its sunk costs.
d. The firm will continue to produce in the short run but will likely exit the market in the long
run.
ANSWER: a. The firm will immediately stop production to minimize its losses.
68
. When fixed costs are ignored because they are irrelevant to a business's production decision, they
are called
a. implicit costs.
b. explicit costs.
c. opportunity costs.
d. sunk costs.
ANSWER: d. sunk costs.
69
. The Wheeler Wheat Farm has a long-term lease on 5,000 acres of land in South Dakota. The annual
lease payment is $250,000. Prior to planting in the spring of 2001, the Wheeler Farm accountant
predicted that the Farm would have $135,000 dollars left after paying all of its costs except the
annual lease payment. In this case, the Wheeler Wheat Farm should
a. continue to operate even though it predicts an accounting loss of $115,000.
b. shut-down and experience an accounting loss of $135,000.
c. exit the market and experience an accounting loss of $250,000.
d. continue to operate because total revenue exceeds total cost.
ANSWER: a. continue to operate even though it predicts an accounting loss of $115,000.
70
. Shrimp Galore, a shrimp harvesting business in the Pacific Northwest, has a 30 year loan on its
shrimp harvesting boat. The annual loan payment is $25,000 and the boat has a market (salvage)
value that exceeds its outstanding loan balance. Prior to the 2001 shrimp harvesting season,
Shrimp Galore's accountant predicted that at expected market prices for shrimp, Shrimp Galore
would have a net loss of $75,000 dollars after paying all 2001 expenses (including the annual loan
payment). In this case, Shrimp Galore should
a. continue to operate even though it predicts a loss of $75,000.
b. not produce and experience a loss of $25,000.
c. not produce and experience a loss of $75,000.
d. continue to operate because expected profits will rise in the future.
ANSWER: b. not produce and experience a loss of $25,000.
71
. A profit maximizing firm's short-run shut down criterion is
a. Average Revenue > Marginal Cost.
b. Price < Average Variable Cost.
c. Price < Average Total Cost.
d. Average Revenue > Average Fixed Cost.
ANSWER: b. Price < Average Variable Cost.
72
. When a profit maximizing firm in a competitive market is unable to generate enough revenue to
pay all of its fixed costs it should, in the short run,
a. shut down and incur the total loss of its fixed costs.
b. continue to produce as long as marginal cost is less than average revenue.
c. continue to produce as long as revenue is sufficient to pay variable costs.
d. shut down until it is able to produce where average revenue exceeds average fixed cost.
ANSWER: c. continue to produce as long as revenue is sufficient to pay variable costs.
73
. In the long run all of a firm's costs are variable. In this case the exit criterion for a profit maximizing
firm is
a. Average Revenue > Marginal Cost.
b. Price < Average Total Cost.
c. Price > Average Total Cost.
d. Average Revenue > Average Fixed Cost.
ANSWER: b. Price < Average Total Cost.
74
. When profit maximizing firms in competitive markets are earning profits,
a. market supply must exceed market demand at the market equilibrium price.
b. market demand must exceed market supply at the market equilibrium price.
c. the most inefficient firms will be encouraged to leave the market.
d. new firms will enter the market.
ANSWER: d. new firms will enter the market.
75
. Profit maximizing firms enter a competitive market when
a. total revenue for existing firms in the market exceeds their total fixed costs.
b. total revenue for existing firms in the market exceeds their total variable costs.
c. price exceeds average total cost for existing firms in the market.
d. average revenue is less than average total cost for existing firms in the market.
ANSWER: c. price exceeds average total cost for existing firms in the market.
The figure below depicts the cost structure of a firm in a competitive market. Use the figure to answer
76
. When market price is P5, a profit maximizing firm's profits can be represented by the area
a. (P5 - P4)  Q3.
b. P5  Q3.
c. (P5 – P3)  Q2.
d. When market price is P5 there are no profits.
ANSWER: a. (P5 - P4)  Q3.
RANDOM: N
77
. Firms would be encouraged to enter this market for all prices that exceed
a. P3.
b. P4.
c. P5.
RANDOM: N
78
. When market price is P2, a profit maximizing firm's losses can be represented by the area
a. (P3 - P2)  Q2.
b. (P2 - P1)  Q2.
c. At a market price of P2, the firm does not have losses.
d. At a market price of P2 the firm has losses, but the reference points in the figure don't identify
the losses.
ANSWER: d. At a market price of P2 the firm has losses, but the reference points in the figure don't
identify the losses.
RANDOM: N
The figure below depicts the cost structure of a firm in a competitive market. Use the figure to answer
79
. When market price is P1, a profit maximizing firm's total revenue can be represented by the area
a. P3  Q2.
b. P1  Q3.
c. P1  Q2.
d. P2  Q2.
ANSWER: c. P1  Q2
80
. When market price is P4, a profit maximizing firm's total cost can be represented by the area
a. P4  Q1
b. P2  Q4
c. P4  Q4
d. Total costs cannot be determined from the information in the figure.
ANSWER: b. P2  Q4
81
. When market price is P1, a profit maximizing firm's total profit or loss can be represented by which
area?
a. (P3 - P1)  Q2 ; loss
b. P1  Q3; profit
c. (P2 - P1)  Q1; loss
d. We can't tell because we don’t know fixed costs.
ANSWER: a. (P3 - P1)  Q2 ; loss
82
. A profit maximizing firm that is showing losses (negative profit) most likely faces which of the
following conditions?
a. P < ATC.
b. P = MC.
c. P > AVC
d. All of the above.
ANSWER: d. All of the above.
TYPE: M KEY1: M SECTION: 2 OBJECTIVE: 2 RANDOM: Y
83
. When a profit maximizing firm is earning profits, those profits can be identified by
a. (P - ATC)  Q.
b. (ATC - P)  Q.
c. P  Q.
d. (MC - AVC)  Q.
ANSWER: a. (P - ATC)  Q.
84
. When a profit-maximizing firm actually ends up minimizing losses, this task is accomplished by
producing the quantity at which price is equal to
a. marginal cost.
b. fixed cost.
c. average cost.
d. sunk cost.
ANSWER: a. marginal cost.
85
. When a profit-maximizing firm's fixed costs are considered sunk in the short run, it
a. will never show losses.
b. can safely ignore fixed costs when deciding how much to produce.
c. can set price above marginal cost.
d. maximizes profit by choosing an output level where price exceeds marginal cost.
ANSWER: b. can safely ignore fixed costs when deciding how much to produce.
86
. A firm's short-run supply curve is part of which of the following curves?
a. marginal cost
b. average variable cost
c. marginal revenue
d. average total cost
ANSWER: a. marginal cost
87
. The irrelevance of sunk costs is best described by which of the following business decisions?
a. Airlines continue to sell tickets even though they are reporting large losses.
b. Airlines exit the market when they report losses.
c. New airlines enter the market and earn profits.
d. all of the above
ANSWER: a. Airlines continue to sell tickets even though they are reporting large losses.
88
. If a profit-maximizing firm in a competitive market discovers that at its current level of production
price is less than marginal cost it should
a. reduce its output.
b. increase its output.
c. keep output the same.
d. always exit the industry.
ANSWER: a. reduce its output.
89
. For any given price, a firm in a competitive market will maximize profit by selecting the level of
output in which price intersects the
a. marginal revenue curve.
b. marginal cost curve.
c. average total cost curve.
d. average variable cost curve.
ANSWER: b. marginal cost curve.
90
. When a farmer is making a long-run decision of whether or not to exit an industry, the cost of land
a. will be considered as part of the farm's fixed cost.
b. is treated differently than the cost of machinery.
c. is not considered a sunk cost.
d. is irrelevant to the strategic decision.
ANSWER: c. is not considered a sunk cost.
91
. Which of the following statements are most likely to be true for the air transportation industry?
(i) In the short-run, the cost of the airplane is sunk.
(ii) The opportunity cost of a flight is the variable cost.
(iii) As long as total revenue exceeds fixed cost, the airlines should continue operating.

b. (ii) and (iii) only
c. (i) and (iii) only
d. All statements are true.
92
. By comparing marginal revenue and marginal cost, a firm in a competitive market is able to adjust
production to the level that
a. maximizes revenue.
b. minimizes total variable cost.
c. maximizes profit.
d. minimizes average total cost.
ANSWER: c. maximizes profit.
93
. Assume that Sarah places a $70 value on seeing her college football team play in the Rose Bowl. She
purchases a ticket to the game for $50 but when she arrives at the game she discovers that her ticket
is missing. A ticket scalper outside the stadium is selling tickets for $65 dollars. If Sarah purchases
a ticket from one of the scalpers for $65, she is best demonstrating the principle that
a. the assumption of rational behavior does not easily apply to the purchase of college football
game tickets.
b. sunk costs are irrelevant to many personal decisions.
c. the price of tickets cannot be explained by economic principles.
d. rational consumers do not always respond to incentives.
ANSWER: b. sunk costs are irrelevant to many personal decisions.
94
. When a restaurant stays open for lunch service even though few customers patronize the restaurant
for lunch, which of the following principles are best demonstrated?
(i) Fixed costs are sunk in the short run.
(ii) In the short run, only variable costs are important to the decision to stay open for lunch.
(iii) If revenue exceeds variable cost, the restaurant owner is making a profitable strategic decision
to remain open for lunch.
b. (ii) and (iii) only
c. (i) and (iii) only
d. All are demonstrated.
ANSWER: d. All are demonstrated.
95
. In the long run, a profit maximizing firm will choose to exit a market when
a. fixed costs exceed sunk costs.
b. revenue from production is less than total costs.
c. average fixed cost is rising.
d. marginal cost exceeds marginal revenue at the current level of production.
ANSWER: b. revenue from production is less than total costs.
96
. One of the most important determinants of the success of free-market capitalism is
a. free entry and exit in markets.
b. government regulation of market participants.
c. enlightened governments selecting firms that should not be allowed to exit a market.
d. having a few large firms rather than thousands of small entrepreneurs.
ANSWER: a. free entry and exit in markets.
TYPE: M KEY1: C SECTION: 2 OBJECTIVE: 4 RANDOM: Y PAGE 302
97
. One reason that Poland is an example of a successful transition to a market-based economy is that
a. the government selected a few large firms to dominate in important heavy manufacturing
industries.
b. the government allowed insolvent firms to go bankrupt.
c. prices for commodities were tightly controlled by the government.
d. all of the above
ANSWER: b. the government allowed insolvent firms to go bankrupt.
98
. One reason that Russia is used an example of a failed transition to a market-based economy is that
a. local governments failed to implement the Balcerowicz rule.
b. the government forced insolvent firms into bankruptcy.
c. Russians were invited to sell whatever they wanted at whatever price consumers would pay.
d. all of the above
ANSWER: a. Local governments failed to implement the Balcerowicz rule.
99
. Evidence of economic deformity in Russia may be described by
a. implementation of the Balcerowicz rule.
b. many factories that employ over 10,000 workers.
c. high rates of bankruptcy.
d. no tolerance for insolvent firms.
ANSWER: b. many factories that employ over 10,000 workers.
100
.
In a market with 1,000 identical firms, the market supply is equal to the
a. average number of units supplied by each firm in the market.
b. sum of the quantities supplied by each of the 1,000 individual firms.
c. marginal cost curve for a representative firm in the market.
d. product of the quantities supplied by all firms in the market.
ANSWER: b. sum of the quantities supplied by each of the 1,000 individual firms.
In the figure below, panel (a) depicts the linear marginal cost of a firm in a competitive market and panel
(b) depicts the linear market supply curve for a market with a fixed number of identical firms. Use the
101
. If there are 200 identical firms in this market, what level of output will be supplied to the market
when price is $1.00?
a. 5,000
b. 10,000
c. 20,000
d. It cannot be determined from the information provided.
ANSWER: c. 20,000
102
. When 100 identical firms participate in this market, at what price will 15,000 units be supplied to
this market?
a. $1.00
b. $1.50
c. $2.00
d. It cannot be determined from the information provided.
ANSWER: b. $1.50
103
. If at a market price of $1.75, 52,500 units of output are supplied to this market, how many identical
firms are participating in this market?
a. 100
b. 200
c. 300
d. 400
ANSWER: c. 300
104
. When firms already in a competitive market are profitable, an incentive exists for
a. existing firms to increase production.
b. new firms to seek government subsidies that would allow them to enter the market.
c. existing firms to raise prices.
d. new firms to enter the market.
ANSWER: d. new firms to enter the market.
105
. When new firms have an incentive to enter a competitive market, their entry will
a. drive down market prices.
b. drive down profits of existing firms in the market.
c. increase the quantity of goods supplied in the market.
d. all of the above
106
. When firms have an incentive to exit a competitive market, their exit will
a. necessarily raise the costs of firms that remain in the market.
b. raise profits for firms that remain in the market.
c. lower market price.
d. all of the above
ANSWER: b. raise profits for firms that remain in the market.
107
. In a perfectly competitive market, the process of entry and exit will end when firms in the market
a. are making zero economic profit.
b. are operating with excess capacity.
c. capture market power.
d. experience decreasing marginal revenue.
ANSWER: a. are making zero economic profit.
108
. At the current level of output, a profit maximizing firm in a competitive market earns average
revenue of $10, and has an average total cost of $8. If the firm's marginal cost curve is equal to its
average total cost curve at an output level of 100 units how much profit is earned by the firm at its
current level of output?
a. more than $200
b. exactly $200
c. less than $200
d. None of the above is necessarily correct.
ANSWER: a. more than $200.
109
. A profit-maximizing firm in a competitive market is able to sell its product for $9. At its current
level of output the firm's average total cost is $10. Its marginal cost curve crosses the marginal
revenue curve at an output level of 10 units. What is the total loss of this firm?
a. more than $10
b. exactly $10
c. less than $10
d. None of the above is necessarily correct.
ANSWER: b. exactly $10
Use the figures below to answer questions 110 through 111.
110
. If the figure in panel (a) reflects the long-run equilibrium of a profit maximizing firm in a
competitive market, the figure in panel (b) is most likely to reflect long-run market
a. demand.
b. supply.
c. strategy.
d. production capacity.
ANSWER: b. supply.
111
. If the figure in panel (a) reflects the long-run equilibrium of a profit maximizing firm in a
competitive market, the figure in panel (b) most likely reflects
a. perfectly inelastic long-run market supply.
b. the product of individual firm supply curves for all firms in the market.
c. the idea that free entry and exit of firms in the market lead to only one market price in the long
run.
d. zero profits cannot be sustained in the long run.
ANSWER: c. the idea that free entry and exit of firms in the market lead to only one market price in
the long run.
112
. In a market that allows free entry and exit, the process of entry and exit ends when
a. profit is zero.
b. price of the good is equal to average total cost.
c. profit maximizing firms set a level of output where average total cost is minimum.
d. all of the above
113
. When a new firm decides to enter a perfectly competitive market,
a. the short-run market supply curve shifts right.
b. demand will rise.
c. the short-run market supply curve shifts left.
d. existing firms will force prices to increase.
ANSWER: a. the short-run market supply curve shifts right.
114
. When new firms enter a perfectly competitive market,
a. entering firms will earn zero profit.
b. profits of existing firms must fall.
c. existing firms will see their costs rise.
d. consumers will likely observe increasing prices.
ANSWER: b. profits of existing firms must fall.
115
. In a competitive market that is characterized by free entry and exit
a. all firms will operate at efficient scale in the short run.
b. price for the homogeneous product will differ across firms.
c. the number of sellers in a market will decrease in the long run.
d. all firms will operate at efficient scale in the long run.
ANSWER: d. all firms will operate at efficient scale in the long run.
116
. If all incumbent firms and all potential firms have the same cost curves and the market is
characterized by free entry and exit,
a. the long-run supply curve for the market must slope downward.
b. the long-run market supply curve must slope upward.
c. the long-run supply curve for the market is horizontal and equal to the minimum of long-run
average cost for each firm.
d. the long-run market supply curve is equal to the sum of marginal cost.
ANSWER: c. the long-run supply curve for the market is horizontal and equal to the minimum of long
run average cost for each firm.
117
. When all firms and potential firms in a market have the same cost curves, the long-run equilibrium
of a competitive market with free entry and exit will be characterized by firms
a. operating at efficient scale.
b. earning small levels of profit.
c. facing the prospect of future losses.
d. that band together to raise market prices.
ANSWER: a. operating at efficient scale.
Use the following information to answer questions 118 through 120.
In March of 2000 a study sponsored by the Food Consumer Safety Board found that consumption of
irradiated grapefruit increased the health of laboratory rats. As a result of national press coverage of the
report, the demand for irradiated grapefruit increased dramatically. Organic farmers were able to switch
from organic production of grapefruit to irradiated production with no additional cost. Assume that the
grapefruit market satisfies all of the attributes of perfect competition.
118
. As a result of the increase in the demand for grapefruit, we would predict that in the short run the
a. production of grapefruit would be at efficient scale.
b. cost for existing irradiated grapefruit producers must rise.
c. price for grapefruit would rise.
d. all of the above
ANSWER: c. price for grapefruit would rise..
TYPE: M KEY1: C SECTION: 3 OBJECTIVE: 4 INSTRUCTION: 1 RANDOM: N
119
. If the increased production of irradiated grapefruit caused a rise in the marginal transportation
costs of moving irradiated grapefruit to market,
a. the long-run market supply of irradiated grapefruit would be downward sloping.
b. the long-run market supply of irradiated grapefruit would be upward sloping.
c. the short-run market supply curve for irradiated grapefruit would be affected, but not the
long-run market supply.
d. the long-run market supply curve for irradiated grapefruit would be perfectly elastic.
ANSWER: b. the long-run market supply of irradiated grapefruit would be upward sloping.
120
. If the increased production of irradiated grapefruit decreased the price of irradiation machines used
in the production process,
a. the long-run market supply of irradiated grapefruit could be upward sloping.
b. the short-run market supply curve for irradiated grapefruit could be affected, but not the long-
run market supply.
c. the long-run market supply curve for irradiated grapefruit could be perfectly elastic.
d. the long-run market supply of irradiated grapefruit could be downward sloping.
ANSWER: d. the long-run market supply of irradiated grapefruit could be downward sloping.
121
. In long-run equilibrium of a competitive market, the number of firms in the markets adjusts so that
all of the market demand is satisfied at a price equal to
a. maximum marginal cost.
b. minimum average total cost.
c. minimum average variable cost.
d. sunk cost.
ANSWER: b. minimum of average total cost.
TYPE: MKEY1: C SECTION: 3 OBJECTIVE: 5 RANDOM: Y
122
. The entry of new firms into a competitive market will
a. decrease market supply and increase market prices.
b. increase market supply and increase market prices.
c. increase market supply and decrease market prices.
d. decrease market supply and decrease market prices.
ANSWER: c. increase market supply and decrease market prices.
123
. When calculating economic profit, total costs include
a. opportunity costs.
b. fixed costs.
c. variable costs.
124
. The exit of existing firms from a competitive market will
b. increase market supply and increase market prices.
d. decrease market supply and decrease market prices.
ANSWER: a. decrease market supply and increase market prices.
125
. The entry and exit decisions of firms in a competitive market are signaled by
a. high capital costs.
b. profits and losses.
c. low capital costs.
d. high or low demand for a firm's product.
ANSWER: b. profits and losses.
126
. When firms are neither entering nor exiting a perfectly competitive market,
a. total cost must exceed total revenue.
b. economic profits must be zero.
c. average revenue must exceed average total cost.
d. average revenue must equal average variable cost.
ANSWER: b. economic profits must be zero.
127
. When entry and exit behavior of firms in an industry does not affect a firm's cost structure,
a. the long-run market supply curve must be upward sloping.
b. the long-run market supply curve must be downward sloping.
c. the long-run market supply curve must be horizontal.
d. We can't tell anything about the shape of the long-run market supply curve.
ANSWER: c. the long-run market supply curve must be horizontal.
128
. When a profit maximizing firm in a competitive market has zero economic profit, accounting profit
a. is positive.
b. is negative (accounting losses).
c. is also zero.
d. could be positive, negative or zero.
ANSWER: a. accounting profit is positive.
129
. As a general rule, when accountants calculate profit they account for explicit costs but usually miss
a. sunk costs.
b. goodwill costs.
c. operating costs.
d. implicit costs.
ANSWER: d. implicit costs.
130
. In calculating accounting profit, accountants typically don't include
a. explicit costs of production
b. opportunity costs that do not involve an outflow of money.
c. long-run costs.
d. sunk costs.
ANSWER: b. opportunity costs that do not involve an outflow of money.
Use the following information to answer questions 131 through 133
As part of an estate settlement Mary received $1 million. She decided to use the money to purchase a
small business in Anywhere, USA. If Mary would have invested the $1 million in a risk free bond fund
she could have made $100,000 each year. She also quit her job with Lucky.Com Inc. to devote all of her
time to her new business; her salary at Lucky.Com Inc. was $75,000 per year.
131
.At the end of the first year of operating her new business, Mary's accountant reported an accounting
profit of $150,000. What was Mary's economic profit?
a. $25,000 profit
b. $150,000 profit
c. $25,000 loss
d. $50,000 loss
ANSWER: c. $25,000 loss
TYPE: M KEY1: C SECTION: 3 OBJECTIVE: 2 RANDOM: N
132
. What are Mary's opportunity costs of operating her new business?
a. $25,000
b. $75,000
c. $100,000
d. $175,000
ANSWER: d. $175,000
133
. How large would Mary's accounting profits need to be to allow her to reach the zero economic
profit equilibrium?
a. $125,000
b. $175,000
c. $200,000
d. $275,000
ANSWER: b. $175,000
Use the figures below to answer questions 134 through 138.
134
. When the market is in long-run equilibrium at point A in panel (b), the firm represented in panel
(a) will
a. exit the market.
b. be at zero-profit equilibrium.
c. earn negative accounting profit.
d. all of the above
ANSWER: b. be at zero-profit equilibrium.
TYPE: M KEY1: D SECTION: 3 OBJECTIVE: 4 RANDOM: N
135
. Assume that the market starts in equilibrium at point A in panel (b). An increase in demand from
Demand0 to Demand1 will result in
a. a new market equilibrium at point D.
b. rising prices and falling profits for existing firms in the market.
c. falling prices and falling profits for existing firms in the market.
d. an eventual increase in the number of firms in the market and a new long-run equilibrium at
point C.
ANSWER: d. an eventual increase in the number of firms in the market and a new long-run
equilibrium at point C.
TYPE: M KEY1: E SECTION: 3 OBJECTIVE: 4 RANDOM: N
136
. If the market starts in equilibrium at point C in panel (b), a decrease in demand will ultimately lead
to
a. more firms in the industry, but lower levels of production for each firm.
b. a new long-run equilibrium at point D in panel (b).
c. fewer firms in the market.
d. none of the above.
ANSWER: c. fewer firms in the market.
137
.
When a firm in a competitive market, like the one depicted in panel (a), observes market price
rising from P1 to P2, it is most likely the result of
a. an increase in market supply from Supply0 to Supply1.
b. an increase in market demand from Demand0 to Demand1.
c. entrance of new firms into the market.
d. the exit of existing firms in the market.
ANSWER: b. an increase in market demand from Demand0 to Demand1.
137
~ANSWER:
b. an increase in market demand from Demand0 to Demand1.
63
~ANSWER:
b. CD
64
~ANSWER:
a. AB.
65
~ANSWER:
c. sunk cost.
66
~ANSWER:
b. the firm will experience losses but will continue to produce rubber balls.
138
.
An increase in market supply from Supply0 to Supply1 is most likely the result of
a. existing firms changing their cost structure.
b. existing firms in the market increasing their level of production beyond Q1.
c. the entrance of new firms in the market.
ANSWER: c. the entrance of new firms in the market.
67
~ANSWER:
a. The firm will immediately stop production to minimize its losses.
68
~ANSWER:
d. sunk costs.
69
~ANSWER:
a. continue to operate even though it predicts an accounting loss of $115,000.
70
~ANSWER:
b. not produce and experience a loss of $25,000.
71
~ANSWER:
b. Price < Average Variable Cost.
139
.
When business managers of firms in a competitive market observe falling profits, they are likely to
infer that the market is characterized by
a. a violation of conventional market forces.
b. rising prices.
c. too few firms in the market.
d. over-investment.
ANSWER: d. over-investment.
72
~ANSWER:
c. continue to produce as long as revenue is sufficient to pay variable costs.
73
~ANSWER:
b. Price < Average Total Cost.
74
~ANSWER:
d. new firms will enter the market.
75
~ANSWER:
c. price exceeds average total cost for existing firms in the market.
76
~ANSWER:
a. (P5 - P4)  Q3.
RANDOM: N
140
.
When a competitive market that is comprised of firms that face identical cost structures experiences
an increase in demand, which of the following are most likely to occur?
(i) New firms will enter the market.
(ii) In the long-run price will return to the level that existed before the change in demand.
(iii) In the long-run all firms will be producing at their efficient scale.
b. (i) and (iii) only
d. (i), (ii) and (iii)
ANSWER: d. (i), (ii) and (iii)
77
~ANSWER:
RANDOM: N
78
~ANSWER:
d. At a market price of P2 the firm has losses, but the reference points in the figure don't
identify the losses.
RANDOM: N
79
~ANSWER:
c. P1  Q2.
80
~ANSWER:
b. P2  Q4
81
~ANSWER:
141
.
When firms in a perfectly competitive market face the same costs, in the long run they must be
operating
a. under economies of scale.
b. at their efficient scale.
c. with marginal profitability.
d. all of the above
ANSWER: b. at their efficient scale.
a. (P3 - P1)  Q2 ; loss

82
~ANSWER:
d. All of the above.
TYPE: M KEY1: M SECTION: 2 OBJECTIVE: 2 RANDOM: Y
83
~ANSWER:
a. (P - ATC)  Q.
84
~ANSWER:
a. marginal cost.
85
~ANSWER:
b. can safely ignore fixed costs when deciding how much to produce.
86
~ANSWER:
142
.
When some resources used in production are only available in limited quantities, it is likely that the
long-run supply curve in a competitive market is
a. upward sloping.
b. vertical.
c. downward sloping.
d. horizontal.
ANSWER: a. upward sloping.
a. marginal cost
87
~ANSWER:
a. Airlines continue to sell tickets even though they are reporting large losses.
88
~ANSWER:
a. reduce its output.
89
~ANSWER:
b. marginal cost curve.
90
?
~ANSWER:
c. is not considered a sunk cost.
91
~ANSWER:
143
.
When a competitive market experiences an increase in demand that induces an increase in producer
costs, which of the following is most likely to arise?
a. Producer profits must fall in the long run.
b. The long-run market supply curve will be upward sloping.
c. The condition of free entry into the market will be violated.
d. All of the above are likely to arise.
ANSWER: b. The long-run market supply curve will be upward sloping.
92
~ANSWER:
c. maximizes profit.
93
~ANSWER:
b. sunk costs are irrelevant to many personal decisions.
94
~ANSWER:
d. All are demonstrated.
95
~ANSWER:
b. revenue from production is less than total costs.
96
~ANSWER:
a. free entry and exit in markets.
144
.
When firms in a competitive market have different costs, it is likely that
a. the market will no longer be considered competitive.
b. free entry and exit in the market is likely to be violated.
c. some firms will earn economic profits in the long run.
d. long-run market supply will be downward sloping.
ANSWER: c. some firms will earn economic profits in the long run.
97
~ANSWER:
b. the government allowed insolvent firms to go bankrupt.
98
~ANSWER:
a. local governments failed to implement the Balcerowicz rule.
99
~ANSWER:
b. many factories that employ over 10,000 workers.
100
~ANSWER:
b. sum of the quantities supplied by each of the 1,000 individual firms.
101
~ANSWER:
c. 20,000
145
. Regardless of the cost structure of firms in a competitive market, in the long run
a. firms will experience rising demand for their products.
b. firms will experience a less competitive market environment.
c. exit and entry is likely to lead to a horizontal long-run supply curve.
d. the marginal firm will earn zero economic profit.
ANSWER: d. the marginal firm will earn zero economic profit.
102
~ANSWER:
b. $1.50
103
~ANSWER:
c. 300.
104
~ANSWER:
d. new firms to enter the market.
105
~ANSWER:
d. all of the above
106
~ANSWER:
b. raise profits for firms that remain in the market.
146
. A long-run supply curve that is more elastic than a short-run supply curve results from which of
the following?
a. Competitive firms have more control over demand in the long run.
b. Firms in a competitive market face identical cost structures.
c. Firms can enter and exit a market more easily in the long run than in the short run.
d. Long-run supply curves are sometimes downward sloping.
ANSWER: c. Firms can enter and exit a market more easily in the long run than in the short run.
107
~ANSWER:
a. are making zero economic profit.
108
~ANSWER:
a. more than $200.
109
~ANSWER:
b. exactly $10
110
~ANSWER:
b. supply.
111
~ANSWER:
c. the idea that free entry and exit of firms in the market lead to only one market price in
the long run.
147
. The market for craft art used in home decoration is a very competitive market. In this market, costs
vary since some people work faster than others and have more artistic talent in producing craft art.
In this competitive market, we would expect to observe
a. a short-run supply curve more elastic than the market's long-run supply curve.
b. an upward sloping long-run supply curve.
c. firms that are generally unresponsive to change in demand.
d. little exit and entry.
ANSWER: b. an upward sloping long-run supply curve.
112
~ANSWER:
d. all of the above
113
~ANSWER:
a. the short-run market supply curve shifts right.
114
~ANSWER:
b. profits of existing firms must fall.
115
~ANSWER:
d. all firms will operate at efficient scale in the long run.
116
~ANSWER:
c. the long-run supply curve for the market is horizontal and equal to the minimum of long
run average cost for each firm.
148
. A market might have an upward sloping long-run supply curve if
a. consumers exercise market power over producers.
b. firms have different costs.
c. all factors of production are essentially available in unlimited supply.
d. all of the above
ANSWER: b. firms have different costs.
117
~ANSWER:
a. operating at efficient scale.
118
?
~ANSWER:
c. price for grapefruit would rise.. As a result of the increase in the demand for grapefruit, we
would predict that in the short-run the
119
~ANSWER:
b. the long-run market supply of irradiated grapefruit would be upward sloping.
120
~ANSWER:
d. the long-run market supply of irradiated grapefruit could be downward sloping.
149
. When new entrants to a competitive market have higher costs than existing firms
a. market price must be rising.
b. accounting profits will be the primary signal for entrance.
c. sunk costs become an important determinant of short-run entrance strategy.
ANSWER: a. market price must be rising.
121
~ANSWER:
b. minimum of average total cost.
TYPE: MKEY1: C SECTION: 3 OBJECTIVE: 5 RANDOM: Y
122
~ANSWER:
123
~ANSWER:
124
~ANSWER:
125
~ANSWER:
b. profits and losses.
150
. The production decisions of perfectly competitive firms follow the principle of economics, which
states that rational people
a. consider sunk costs.
b. think at the margin.
c. equate prices to the average costs of production.
d. will eventually leave markets that experience zero profit.
ANSWER: b. think at the margin.
TRUE/FALSE
126
~ANSWER:
b. economic profits must be zero.
127
~ANSWER:
c. the long-run market supply curve must be horizontal.
128
~ANSWER:
a. is positive.
129
~ANSWER:
d. implicit costs.
130
~ANSWER:
b. opportunity costs that do not involve an outflow of money.
151
. In competitive markets, firms that raise their prices are typically rewarded with larger profits.
ANSWER: F
TYPE: T KEY1: D SECTION: 1 OBJECTIVE: 1 RANDOM: Y
152
.
When individual firms in competitive markets increase their production, it is likely that market
price will fall.
ANSWER: F
153
. In a competitive market, firms are unable to differentiate their product from that of other producers.
ANSWER: T
131
ANSWER:
c. $25,000 loss
132
~ANSWER:
d. $175,000
133
~ANSWER:
b. $175,000.
134
~ANSWER:
b. be at zero-profit equilibrium.
TYPE: M KEY1: D SECTION: 3 OBJECTIVE: 4 RANDOM: N
135
~ANSWER:
d. an eventual increase in the number of firms in the market and a new long-run
equilibrium at point C.
136
154
. Firms in competitive markets are said to be price takers.
ANSWER: T
155
. For a firm in a competitive market, marginal revenue is always equal to average revenue.
ANSWER: T
~ANSWER:
c. fewer firms in the market.
46
~ANSWER:
b. it is unwilling to produce any output.
47
~ANSWER:
c. it can earn profits by increasing production to Q4.
48
~ANSWER:
a. Marginal revenue is lower than marginal cost at the previous level of output, so it
decreases production.
49
~ANSWER:
c. remain unchanged.
156
.
The assumption of free entry and exit is necessary for firms in a competitive market to be price
takers.
ANSWER: F
157
.To answer the question, "How much revenue does the farm receive for the typical gallon of milk?" a
dairy farmer must be able to calculate sunk cost.
ANSWER: F
50
~ANSWER:
d. total revenue.
51
~ANSWER:
b. price is above or below marginal cost.
52
~ANSWER:
a. there are opportunities to increase profit by increasing production.
53
~ANSWER:
c. should always increase profit (or decrease loss).
54
~ANSWER:
b. is reflected in its marginal cost curve (above average variable cost).
158
. A firm must be participating in a competitive market for average revenue to equal price.
ANSWER: F
159
.
A profit maximizing firm in a competitive market will increase production when average revenue
exceeds marginal cost.
ANSWER: T
55
~ANSWER:
b. price is below the minimum of average variable cost.
56
~ANSWER:
a. shut down
57
~ANSWER:
a. fixed costs.
58
~ANSWER:
a. shut down.
59
~ANSWER:
d. shut down and incur fixed costs.
160
.In making a short-run profit maximizing production decision, the firm must consider both fixed and
variable cost.
ANSWER: F
161
. The marginal firm in a competitive market will earn zero economic profits in the long run.
ANSWER: T
60
~ANSWER:
b. sheepherders making a shut down decision to save the variable cost of transporting
sheep to a slaughter market.
62
~ANSWER:
RANDOM: N
138
~ANSWER:
c. the entrance of new firms in the market.
139
~ANSWER:
d. overinvestment.
140
~ANSWER:
d. (i), (ii) and (iii)
162
. A profit maximizing firm in a competitive market will earn zero accounting profits in the long run.
ANSWER: F
163
. A firm will shut down in the short run if revenue is not sufficient to cover its variable cost of
production.
ANSWER: T
141
~ANSWER:
b. at their efficient scale.
142
~ANSWER:
a. upward sloping.
143
~ANSWER:
b. The long-run market supply curve will be upward sloping.
144
~ANSWER:
c. some firms will earn economic profits in the long run.
145
~ANSWER:
d. the marginal firm will earn zero economic profit.
164
. A firm will shut down in the short run if revenue is not sufficient to cover all of its fixed cost of
production.
ANSWER: F
165
. The supply curve of a firm in a competitive market is equal to average variable cost, above the
minimum of marginal cost.
ANSWER: F
146
~ANSWER:
c. Firms can enter and exit a market more easily in the long run than in the short run.
147
~ANSWER:
b. an upward sloping long-run supply curve.
148
~ANSWER:
b. firms have different costs.
149
~ANSWER:
a. market price must be rising.
150
~ANSWER:
b. think at the margin.
166
.
A firm in a competitive market will maximize profit when the level of production is such that
marginal cost equals price.
ANSWER: T
167
.
By comparing the marginal revenue and marginal cost from each unit produced, a firm in a
competitive market can determine the profit maximizing level of production.
ANSWER: T
151
~ANSWER:
F
152
~ANSWER:
F
153
~ANSWER:
T
154
~ANSWER:
T
155
~ANSWER:
T
168
.
A firm's incentive to compare marginal revenue and marginal cost is an application of the principle
that rational people think at the margin.
ANSWER: T
TYPE: T KEY1: D SECTION: 2 OBJECTIVE: 2 RANDOM: Y PAGE 295
169
. A distinctive feature of the average total cost curve is that it is everywhere upward sloping.
ANSWER: F.
156
~ANSWER:
F
157
~ANSWER:
F
158
~ANSWER:
F
159
~ANSWER:
T
160
~ANSWER:
F
170
.
The long-run equilibrium in a competitive market characterized by firms with identical costs is
generally characterized by firms operating at efficient scale.
ANSWER: T
171
.
When a resource used in the production of a good sold in a competitive market is available in only
limited quantities, the long-run supply curve is likely to be upward sloping.
ANSWER: T
161
~ANSWER:
T
162
~ANSWER:
F
163
~ANSWER:
T
164
~ANSWER:
F
165
~ANSWER:
F
172
. A competitive market will typically experience entry and exit until all accounting profits are zero.
ANSWER: F
173
.
In the long run, a competitive market with 1,000 identical firms will experience an equilibrium
price equal to the minimum of each firm's average total cost.
ANSWER: T
166
~ANSWER:
T
167
~ANSWER:
T
168
~ANSWER:
T
169
ANSWER:
c. $25,000 loss.
170
~ANSWER:
T
171
174
.
At the end of the process of entry and exit, it is possible that some firms in a competitive market are
making positive economic profit.
ANSWER: T
175
.
The short-run supply curve in a competitive market must be more elastic than the long-run supply
curve.
ANSWER: F
176
.
Marginal adjustments to production end when firms in competitive markets experience a price
equal to marginal revenue.
ANSWER: F
177
.
When a profit-maximizing firm in a competitive market experiences rising prices, it will respond
with an increase in production.
ANSWER: T
~ANSWER:
T
172
~ANSWER:
F
173
~ANSWER:
T
177
~ANSWER:
T
178
.
For a farmer facing a long-run decision of whether to exit the market or not, the cost of her land is
not considered to be sunk.
ANSWER: T
179
.
All of the following conditions are consistent with a firm’s decision to shut down: TR < VC, TR/Q <
VC/Q, and P < MR. (TR = total revenue, VC = variable cost, Q = level of production, P = price,
and MR = marginal revenue.)
ANSWER: F
179
~ANSWER:
F
174
~ANSWER:
T
175
~ANSWER:
F
176
~ANSWER:
F
178
~ANSWER:
T
180
.
Because nothing can be done about sunk costs they are irrelevant to decisions about business
strategy.
ANSWER: T
181
.
A miniature golf course is a good example of where fixed costs become relevant to the decision of
when to open and when to close for the season.
ANSWER: F
182
.
In the long run, when price is less than average total cost for all possible levels of production, a firm
in a competitive market will choose to exit (or not enter) the market.
ANSWER: T
183
.
The transition economies of Russia and Poland clearly demonstrate that encouraging small start-
ups discourages organized crime for capturing a large role in the economy.
ANSWER: T
181
~ANSWER:
F
182
~ANSWER:
T
183
~ANSWER:
T
180
~ANSWER:
T
184
.
When a firm experiences zero-profit equilibrium, the firm's revenue must be sufficient to cover all
opportunity costs.
ANSWER: T
SHORT ANSWER
185
.
Describe the difference between average revenue and marginal revenue. Why are both of these
revenue measures important to a profit maximizing firm?
ANSWER: Average revenue is total revenue divided by the amount of output. Marginal revenue is the
change in total revenue from the sale of each additional unit of output. Marginal revenue is used to
determine the profit maximizing level of production and average revenue is used to help determine
the level of profits.
TYPE: S KEY1: C SECTION: 1 OBJECTIVE: 2 RANDOM: Y
186
. Explain what it means if a firm in a competitive market is labeled as a price taker.
ANSWER: A price taker is a firm whose production decisions have no influence on market price.
TYPE: S KEY1: D SECTION: 1 OBJECTIVE: 1 RANDOM: Y
185
~ANSWER:
Average revenue is total revenue divided by the amount of output. Marginal revenue is the change in
total revenue from the sale of each additional unit of output. Marginal revenue is used to determine the
profit maximizing level of production and average revenue is used to help determine the level of profits.
184
~ANSWER:
T
186
~ANSWER:
A price taker is a firm whose production decisions have no influence on market price.
187
. List and describe the characteristics of a perfectly competitive market.
ANSWER: There are many buyers and sellers in the market. The goods offered by the various sellers are
largely the same. Firms can freely enter or exit the market.
188
. Use a graph to demonstrate the circumstances that would prevail in a competitive market where
firms are earning economic profits. Can this scenario be maintained in the long run? Carefully
explain your answer.
187
~ANSWER:
There are many buyers and sellers in the market. The goods offered by the various sellers are largely the
same. Firms can freely enter or exit the market.
188
In a competitive market where firms are earning economic profits, new firms will have an incentive to
enter the market. This entry will expand the number of firms, increase the quantity of the good supplied,
and drive down prices and profit.
ANSWER: In a competitive market where firms are earning economic profits, new firms will have an
incentive to enter the market. This entry will expand the number of firms, increase the quantity of
the good supplied, and drive down prices and profit.
TYPE: S KEY1: G SECTION: 2 OBJECTIVE: 2 GRAPH FORMAT: M ANSWER RANDOM: Y
189
. Explain the role of opportunity costs in differentiating between economic profits and accounting
profits.
ANSWER: Accounting profits do not account for the opportunity cost of doing business. Economic profits
take into account the opportunity cost of production (or conducting business).
190
.Explain how a firm in a competitive market identifies the profit maximizing level of production.
When should the firm raise production, and when should the firm lower production?
ANSWER: By selecting the level of output at which marginal revenue is equal to marginal cost. If MR >
MC, profit will increase if the firm increases Q. If MR < MC, profit will increase if the firm decreases
Q.
189
~ANSWER:
Accounting profits do not account for the opportunity cost of doing business. Economic profits take into
account the opportunity cost of production (or conducting business).
190
~ANSWER:
By selecting the level of output at which marginal revenue is equal to marginal cost. If MR > MC, profit
will increase if the firm increases Q. If MR < MC, profit will increase if the firm decreases Q.
191
. Explain the relationship between a firm's supply curve and its costs.
ANSWER: The marginal cost curve above the minimum of average variable cost is the supply curve for a
firm in a competitive market.
TYPE: S KEY1: G SECTION: 2 OBJECTIVE: 5 RANDOM: Y
192
. Give two reasons why the long-run industry supply curve may slope upward. Use an example to
demonstrate your reasons.
ANSWER: Some resource used in production may be available only in limited quantities and firms may
have different cost structures. The example provided in the text for the first reason is the market for
farm products. As more people become farmers, the price of land is bid up since its supply is
limited. As the price of farm land is bid up, the cost of all farmers in the market rises. The
example used to support the second reason is the market for painters. Anyone can enter the market
for painting services, but not everyone has the same costs because some painters work faster than
others.
193
. There are 500 profit maximizing firms in a competitive market. When market price is $5 per unit
each firm produces exactly 10 units of output. What is the total quantity supplied to the market and
the marginal revenue per unit?
ANSWER: 5,000, $5
TYPE: S KEY1: E SECTION: 3 OBJECTIVE: 5 RANDOM: Y
194
. Why would a firm in a perfectly competitive market always choose to set its price equal to the
current market price? If a firm set its price below the current market price, what effect would this
have on the market?
ANSWER: It could not sell any more of its product at the lower price than it could sell at the higher price.
As a result, it would needlessly forgo revenue if it set a price below the going price.
193
~ANSWER:
5,000, $5
TYPE: S KEY1: E SECTION: 3 OBJECTIVE: 5 RANDOM: Y
194
~ANSWER:
It could not sell any more of its product at the lower price than it could sell at the higher price. As a
result, it would needlessly forgo revenue if it set a price below the going price.
195
. News reports from the western United States occasionally report incidents of cattle ranchers
slaughtering a large number of newborn calves and burying them in mass graves rather than
transport them to markets. Assuming that this is rational behavior by profit-maximizing "firms,"
explain what economic factors may influence such behavior.
ANSWER: If the selling price is not sufficient to cover the variable cost of sending them to market this
behavior would make sense.
196
. Use a graph to demonstrate the circumstances that would prevail in a perfectly competitive market
where firms are experiencing economic losses. Identify costs, revenue, and the economic losses on
your graph. Using your graph, determine whether this firm will shut down in the short run, or
choose to remain in the market. Explain your answer.
191
~ANSWER:
The marginal cost curve above the minimum of average variable cost is the supply curve for a firm in a
competitive market.
192
~ANSWER:
Some resource used in production may be available only in limited quantities and firms may have
different cost structures. The example provided in the text for the first reason is the market for farm
products. As more people become farmers, the price of land is bid up since its supply is limited. As the
price of farm land is bid up, the cost of all farmers in the market rises. The example used to support the
second reason is the market for painters. Anyone can enter the market for painting services, but not
everyone has the same costs because some painters work faster than others.
195
~ANSWER:
If the selling price is not sufficient to cover the variable cost of sending them to market this behavior
would make sense.
ANSWER:
The loss and revenue are identified on the individual firm graph. Total cost is equal to the sum of
the losses and revenue. The decision about whether this firm shuts down or remains in the market
depends upon the position of average variable cost. If average variable cost is below P0 at output
level Q0, the firm will remain in the market. If average variable cost is above P0 at output level Q0
the firm will exit the market.
197
. Under what conditions would a firm choose to shut down? When would it decide to exit the
market?
ANSWER: When price is below average variable cost. The exit decision is a long-run decision in which
the firm has no prospect of being able to cover its cost of production.
198
. At its current level of production a profit-maximizing firm in a competitive market receives $12.50
for each unit it produces, and faces an average total cost of $10. At the market price of $12.50 per
unit, the firm's marginal cost curve crosses the marginal revenue curve at an output level of 1000
units. What is the firm's current profit? What is likely to occur in this market and why?
ANSWER: $2,500; firms are likely to enter this market since existing firms are earning economic profits.
199
. Discuss the process that induces firms to operate at efficient scale in the long run in a competitive
market with free entry and exit.
ANSWER: If all firms in a competitive industry face the exact same cost structure, the exit and entry of
firms will force every firm in the market to operate at the efficient scale of production. If it does not
operate at efficient scale, it will be incurring economic losses because market price will settle at the
minimum of long-run average cost. Firms that choose a level of production that is not at the point
of minimum of long-run average cost will experience P > ATC.
200
. In the late 1990s a study sponsored by the California Agriculture Board found that moderate daily
consumption of red wine reduced the incidence of heart disease in laboratory rats. As a result of
national press coverage of the report, the demand for red wine increased dramatically. Assume that
the wine market satisfies all of the attributes of a competitive market. Further assume that red
grapes are the most expensive input into the red wine production process.
a. Use a graph of the market for wine to demonstrate the effect of the report on market
equilibrium.
b. Graph the reaction of individual incumbent firms to the increase in market demand. In your
graph, identify the firm's revenue and cost structures.
c. What would you predict would happen to long-run industry supply if the price of red grapes
increased as wine producers increased their production of red wine. Use a graph to demonstrate the
validity of your prediction.
196
~ANSWER:
The loss and revenue are identified on the endividual firm graph. Total cost is equal to the sum of the
losses and revenue. The decision about wheter this firm shuts down or remains in the market depends
upon the position of average variable cost. If average variable cost is below P 0 at output level Q0, the firm
will remain in the market. If average variable cost is above P0 at output level Q0 the firm will exit the
market.
ANSWER:
197
~ANSWER:
When price is below average variable cost. The exit decision is a long-run decision in which the firm has
no prospect of being able to cover its cost of production.
198
~ANSWER:
$2,500; Firms are likely to enter this market since existing firms are earning economic profits.
199
~ANSWER:
If all firms in a competitive industry face the exact same cost structure, the exit and entry of firms will
force every firm in the market to operate at the efficient scale of production. If it does not operate at
efficient scale, it will be incurring economic losses because market price will settle at the minimum of
long-run average cost. Firms that choose a level of production that is not at the point of minimum of
long-run average cost will experience P > ATC.
200
~ANSWER:
a. (See figure above, panel a.)

Demand will increase, the quantity exchanged in the market will increase from Q0 to Q1 and
market price will rise from P0 to P1.
b. (See figure above, panel b.)
The market price will rise from P0 to P1 and individual firm output will rise from Q0 to Q1.
c. (See figure above, panel c.)
If the price of red grapes rises as producers increase production of wine, then average total
cost will increase (from ATC0 to ATC1) as output is increased. This will lead to upward sloping
industry supply as reflected in the market figure of panel c.
a. (See figure above, panel a.)
201
. If identical firms that remain in a competitive market over the long run make zero economic profit,
why do these firms choose to remain in the market?
ANSWER: Because a normal rate of return on their investment is included as part of the opportunity cost
of production.
Demand will increase, the quantity exchanged in the market will increase from Q0 to Q1 and
market price will rise from P0 to P1.
b. (See figure above, panel b.)
The market price will rise from P0 to P1 and individual firm output will rise from Q0 to Q1.
c. (See figure above, panel c.)
If the price of red grapes rises as producers increase production of wine, then average total cost
will increase (from ATC0 to ATC1) as output is increased. This will lead to upward sloping industry
supply as reflected in the market figure of panel c.
201
~ANSWER:
Because a normal rate of return on their investment is included as part of the opportunity cost of
production.

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Chapter 14

Firms in Competitive Markets

Use the information in the table below to answer questions 5 through 8.

Quantity Total Revenue Total Cost

a. (i) and (ii) only

Use the figures below to answer questions 110 through 111.

Use the following information to answer questions 118 through 120.

Use the following information to answer questions 131 through 133

Use the figures below to answer questions 134 through 138.

a. (P3 - P1)  Q2 ; loss

TYPE: M KEY1: C SECTION: 2 OBJECTIVE: 2 RANDOM: Y

TYPE: M KEY1: C SECTION: 3 OBJECTIVE: 5 RANDOM: Y

TYPE: T KEY1: D SECTION: 1 OBJECTIVE: 1 RANDOM: Y

TYPE: T KEY1: D SECTION: 2 OBJECTIVE: 1 RANDOM: Y

TYPE: S KEY1: G SECTION: 2 OBJECTIVE: 2 GRAPH FORMAT: M ANSWER RANDOM: Y

TYPE: S KEY1: C SECTION: 2 OBJECTIVE: 2 RANDOM: Y

a. (See figure above, panel a.)

a. (See figure above, panel a.)

b. (See figure above, panel b.)

c. (See figure above, panel c.)

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