## Wednesday, May 11, 2016

### 2006 AP Micro FRQ (question 2)

2006 AP Micro FRQ (question 2)

(a) What is the dollar value of the firm's total fixed cost?

Understand that Total Cost = Variable Cost + Fixed Costs,,, Variable costs (think labor) only exist when there is actual production. If costs are (\$20) and there is no production then the cost of \$20 must be a fixed cost.

(b) Calculate the marginal cost of producing the first unit of output.

If Fixed Costs are (\$20) and the Total Costs are (\$27) then the Variable Costs/ Marginal Cost must be (\$7).

(c) If the price the firm receives for its product is \$20, indicate the firms profit-maximising quantity of output and explain how you determined the answer.

If \$20 is the products price, and it is a perfectly competitive firm, then the
Marginal Revenue = Price,, as the perfectly competitive firm's (MR. DARP) is perfectly elastic.
For every unit sold the revenue increases by \$20 = the MR = P.
Profit Maximising quantity is where MR = MC, which is closest with the fourth unit.

Understand that just saying the 4th unit does not explain,,, to explain you must clearly explain WHY?

EXPLAIN - Using marginal analysis we compare where a firm's MR = MC, this is where profit is maximised. The 4th unit of production the MR \$20 > MC \$19. We are as close to Profit Max as possible, if we produce the 5th unit MR \$20 < MC \$23 (a loss). The firm profit max is to produce a quantity of 4.

(d) Given your results in part (c), Explain what will happen to the number of firms in the industry in the long-run.

Understand that the firm is making a profit of \$8 with a production of 4 units. This is positive/abnormal/super economic profit in the short-run. Profits attract firms and therefore firms will enter the market hunting for profits.
Number of firms will increase