Question

True or False. An increase in the cost of an important input increases the average total cost of production for all firms in a perfectly competitive industry. This will drive some firms out of the market in the long run.

Answer 1

Let's start with the meaning of average total cost, it is the sum of average fixed cost and average variable cost of the firms. So, if the price of input which is the cost of production for the firms increases, this will lead to this condition:

Minimum ATC> Price, here cost becomes more than the price charges by the firms. So, firms are making losses, therefore firms will exit that is firms will get out of the market, till the time market forces (which are demand and supply curve) increases the price and the equibrium is restored at P= Minimum of ATC.

Hence, this is a true statement.