Question

Suppose that a monopolistically competitive restaurant is currently serving 270 meals per day (the output where MR = MC). At that output level, ATC per meal is $10 and consumers are willing to pay $12 per meal.

Instructions: Enter your answers as whole numbers.

a. What is the size of this firm’s profit or loss?

b. Will there be entry or exit? Will this restaurant’s demand curve shift left or right?

c. Suppose that the allocatively efficient output level in long-run equilibrium is 220 meals.

In long-run equilibrium, suppose that this restaurant charges $11 per meal for 180 meals and that the marginal cost of the 180th meal is $8.

What is the size of the firm’s economic profit?

d. Suppose that the allocatively efficient output level in long-run equilibrium is 220 meals. In long-run equilibrium, suppose that this restaurant charges $11 per meal for 180 meals and that the marginal cost of the 180th meal is $8. Is the deadweight loss for this firm greater than or less than $120?

Answer 1

a. Profit = Total revenue - total cost = P*Q - ATC*Q = (P - ATC)*Q = (12 - 10)*270 = 2*270 = $540

b. As the profit is positive in the short run, so more firms will enter the industry in the long run until each firm earns zero economic profit. The demand for each firm will thus decrease and restaurant's demand curve shift left.

c. In long run, P = ATC.
So, Economic profit = (P-ATC)*Q = (11-11)*180 = $0

d. Allocatively efficient output means P = MC gives Qc = 220. However, this price will lie between $11 and $8.
Deadweight loss = (1/2)*base*height = (1/2)*(Qc-Q)*(P-MC) = (1/2)*(220-180)*(11-8) = (1/2)*40*3 = $60
So, deadweight loss is less than $120.