Multiple Choice TutorialChapter 8

Perfect Competition

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1. Economic theory assumes that the goal of firms is to maximizea. salesb. total revenuec. profitd. price

C. Microeconomics is the study of the economic behavior in particular markets, such as the market for computers or for unskilled labor. A part of microeconomics is price theory, what is the best price to charge and quantity to produce for a firm to maximize its profits?

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2. Market structure a. has no influence on a firm’s decision

makingb. applies only to industries regulated by the

governmentc. is determined entirely by demand

conditions in the industryd. influences the forms of competition among

firms

D. Economists recognize four distinct types of markets, they are: perfect competition, monopolistic competition, oligopoly, and monopoly.

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3. A market is perfectly competitive when a. there are two virtually identical firms

which are equally matched and selling in the same marketb. government authorities set price at an

acceptable level which forces firms to compete on everything except price

c. all sellers must charge approximately the same price for comparable products

C. Firms charge approximately the same price because they have no incentive to charge a price other than that which is determined by the market, market demand and market supply.

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4. Which of the following describes the market structure of perfect competition?a. many firms, low barriers to entry, some

control over price, and product differentiation

b. many firms, low barriers to entry, no control over price, and identical products with no differentiation

c. a few firms producing similar products, significant barriers to entry, and some control over price

B. For example, there are many potato farmers, anyone can plant potatoes, and the potatoes of one farmer cannot be distinguished from the potatoes of another farmer.

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5. Homogeneous products are a. rare and expensive

b. patented and licensedc. highly differentiatedd. uniform or standardized

D. The term homo means “the same.” For example, all potatoes are the same, one potato cannot be distinguished from another.

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6. The economic model of perfect competition is a. not useful

b. useful because most firms and industries in the real world are perfectly competitive

c. only useful in markets created and controlled by the government

d. useful because it demonstrates how market structure can affect resource allocation, prices, and output

D. Sometimes the best we can do is approximate reality, but even so, this gives us an idea of how the real-world works.

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7. Which real-world market closely approximates perfect competition?a. most agricultural marketsb. automobile manufacturersc. state universitiesd. cable television services

A. Most agricultural markets are perfectly competitive because each involves a homogeneous product, there is easy entry and exit, and farmers can sell all units they bring to market providing they are willing to sell at the market price.

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8. The demand curve facing a perfectly competitive firm is

a. perfectly elasticb. perfectly inelasticc. unit elasticd. downward-sloping

A. A perfectly elastic demand curve means that a change in price has an infinite effect on quantity demanded, the curve is perfectly horizontal at the market price. At the market price a farmer can sell all units brought to market, but if he charges a higher price, he will sell no units; why would consumers pay a higher price if they can buy exactly the same thing at a lower price from many competitors.

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9. Perfectly competitive firms have no individual control over the

a. quantity of output producedb. quantities of inputs usedc. price of the productd. type of goods produced

C. For example, any farmer can charge whatever price he wants for his product, but he had no incentive to charge other than the market price. If he charges more, he will sell zero units, he will not charge less because he can sell all units brought to market at the market price.

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10. Which of the following is not true with regard to economic profit?a. economic profit equals total revenue minus

total costb. economic profit excludes implicit costc. economic profit is any profit greater than a

normal profitd. firms attempt to maximize economic profit

B. Normal profit is an example of implicit costs. Normal profit is the minimum amount of money that will keep a business owner operating the business. Because this is a necessary expense of operating a business, we include normal profit as part of our cost data.

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11. Perfectly competitive firms respond to changing short-run market conditions by varyinga. both c and db. advertising campaignsc. outputd. price

C. A firm that is part of a perfectly competitive market will charge the market price, that is, they are price takers; but they do have a choice of how many units to produce.

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12. If a firm shuts down in the short run and produces no output, its total cost isa. zerob. equal to variable costc. equal to fixed costd. explicit costs only

C. To shut down does not mean that the firm goes out of business; it means that the firm simply ceases production. Why will a firm continue to operate even though it is making a loss? Because its losses are less than its fixed costs, costs that have to be paid whether the firm continues to operate or not.

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13. The total revenue curve for a perfectly competitive firm

a. is a vertical line intersecting the horizontal axisb. is a horizontal line at the market pricec. starts part way up the vertical axis,

sloping upward in a backwards-S curved. is a straight line starting from the origin

and sloping upward

D. The total revenue curve is a straight line sloping upward from the origin because a perfectly competitive firm can sell all units brought to market at the same price, the market price.

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14. The total revenue curve for a perfectly competitive firm isa. directly and proportionately related to

outputb. directly or inversely related to output,

depending on the price elasticity of demandc. inversely related to output d. inversely related to price

A. In other types of markets, a firm can sell more units if it lowers the price, and except for a discriminating monopolist, the price cut has to apply to all identical units at one point in time. Not so in a perfectly competitive market.

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15. Marginal revenue is a. total revenue minus total cost

b. total revenue divided by quantity of outputc. the change in total revenue divided by the

change in outputd. the change in total revenue divided by the

change in the quantity of an input used

C. The word margin means the last unit. Marginal revenue is the measure of how much revenue is added to total revenue by producing the last unit of output.

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16. The slope of the total revenue curve equals a. marginal revenue, which equals price for a

perfectly competitive firmb. marginal revenue, which is greater than

price for a perfectly competitive firmc. marginal revenue, which is less than price

for a perfectly competitive firmd. average revenue, which is greater than

price for a perfectly competitive firmA. The slope of a line is the measure of a

change vertically and the change horizontally; sometimes it is referred to as the “rise” divided by the “run.” In perfect competition, the rise per unit is always the market price.

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17. For perfectly competitive firms, what is the relationship between market price (P), average revenue (AR), and marginal revenue (MR)?a. P = AR = MRb. P > AR = MRc. P = AR > MRd. P = AR < MR

A. Price equals average revenue because all units are sold for the same price, therefore, total revenue divided by quantity will always equal the price. Average revenue always equals marginal revenue because no matter the number of units sold, the same price is added to total revenue.

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18. The golden rule of profit maximization states that any firm maximizes profit by producing wherea. demand is unit elastic, and total revenue is

greatestb. price equals average revenuec. price equals marginal costd. marginal revenue equals marginal cost

D. If marginal revenue is greater than marginal cost, a firm will produce that unit of output because it can make a profit on that last unit of output. A firm will not produce that last unit of output where marginal revenue is less than marginal cost because a loss would be made on that last unit of output.

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19. Average revenue is a. total revenue minus total cost

b. total revenue divided by quantity of outputc. total revenue divided by quantity of inputd. the change in total revenue divided by the

change in output

B. Average always means the total divided by number of units. Revenue means money in, that is, price times quantity. So average revenue means total revenue divided by units of output.

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20. If average revenue equals average total cost,a. total revenue is maximizedb. average revenue is maximizedc. economic profit is maximizedd. economic profit is zero

D. When average revenue equals average cost, total revenue equals total cost. Because we include normal profit (the minimum amount of money that will keep a business owner operating the business) as a part of our cost data, when TR equals TC we say that the firm is making zero economic profits, or it is exactly breaking even.

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21. Total revenue minus total cost equals a. total economic profit

b. total accounting profitc. a normal profitd. economic profit per unit of output

D. Revenue minus cost is either profit or loss, depending on whether revenues are greater or less than costs. When revenue is greater than cost, an economic profit (profit) is being made. If revenues equal costs, a normal profit is being made. If revenues are less than costs, the firm experiences a loss.

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22. On a graph showing a perfectly competitive firm’s demand curve, average total cost curve, and marginal cost curve, total economic profit is represented by thea. length of a vertical lineb. length of a horizontal linec. area of a rectangled. area of a triangle

C. Profits are maximized at the number of units where marginal revenue equals marginal cost. On this vertical line, the difference between AR and AC is the width of the rectangle and from zero to the number of units (where MR = MC) is the length of the rectangle.

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23. To maximize profit, a perfectly competitive firm which decides not to shut down will choose the rate of output at which

a. price is highestb. price minus average total cost is

maximizedc. price equals marginal costd. total revenue is maximizedC. In a perfectly competitive market, price always equals marginal revenue because no matter how many units are sold the market price is always added to the total revenue. Therefore, when we say that price equals marginal revenue, we are also saying the marginal revenue equals marginal cost.

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24. A perfectly competitive firm will produce at an economic loss (negative profit) in the short run rather than discontinue production if there is a rate of output at which pricea. exceeds average variable costb. exceeds average fixed costc. exceeds average total costd. equals marginal cost

A. When price exceeds average fixed cost (at the level of output where MR = MC) the firm’s loss is less than its fixed cost. Therefore, it will lose less money if it continues to operate than it would incur if it were to close down.

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25. A perfectly competitive firm will produce at an economic loss (negative profit) in the short run rather than discontinue production if there is a rate of output at which

a. marginal revenue equals marginal costb. total revenue equals total costc. total revenue exceeds total costd. total revenue exceeds total variable cost

D. This is the same as the previous question because when average revenue exceeds average cost, total revenue exceeds total cost.

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26. A perfectly competitive firm producing 100 units of output faces the following facts:

Average total cost is $20Average variable cost is $12Marginal cost is $18Price of the product is $18

A. Average loss equals AR ($18) minus AC ($20) or $-2; average fixed cost equals AC ($20) minus AVC ($12) or -$8). So if this firm stays open it will lose on the average $2, but if it closes down it will lose an average $8. So this firm should stay open.

The firm shoulda. stay openb. raise the price of its productc. shut down (reduce output to zero)

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27. A perfectly competitive firm faces the following facts:Price of the product is $22Marginal cost is $20 and increasing

A. It should increase production because MR > MC. The fact that the MC curve is increasing is pertinent because its possible that MR can intersect the MC curve at a point where it is decreasing, more units produced in this case will result in MR being greater then MC.

The firm should a. produce more output

b. reduce the production without shutting down

c. shut down (reduce output to zero)

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ATC

MC

D = MR =ARAVC

P

Q

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Exhibit 21-1

Last slide viewed

12 2010

9990

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28. The purely competitive firm in Exhibit 21-1 should

a. close downb. produce 5 units of outputc. product 10 units of outputd. produce 12 units of output

D. MR = MC at 12 units of output. For each unit it produces beyond 12 units it will lose money on each unit of output.

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29. The maximum economic profit (or minimum economic loss) for the firm in Exhibit 21-1 would be a

a. loss of $540b. loss of $480c. loss of $60d. loss of $490

B. MR = MC at 12 units of output. At 12 units average revenue (AR) is $50 and average total cost (ATC) is $90. $90 minus $50 equals $40, which is average loss at 12 units (we know it is a loss because ATC is > then AR at 12 units). Total loss is 12 x $40 which is $480.

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30. The firm in Exhibit 21-1 a. will close immediately

b. is earning a short-run economic profitc. is earning a short-run economic lossd. is operating in the long run

C. If this firm were to produce any other but 12 units of output it would lose more money.

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31. The profit maximizing firm in Exhibit 21-1 a. has a profit per unit of $5

b. is incurring a loss per unit of $40c. is incurring a loss per unit of $49d. is incurring a loss per unit of $108

B. At 12 units AR is $50 and AC is $90 so average loss is equal to $40.

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32. The firm in Exhibit 21-1 a. has both c and d

b. has fixed costs equal to $490c. should close down immediately to minimize

lossesd. has fixed costs equal to $540

D. Average fixed cost (AFC) at 12 units is $45 (ATC minus AVC or $90 -$45) and therefore total loss is $540 ($45 x 12).

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ATCMC

D = MR =AR

AVC

P

Q

J

Exhibit 21-2

Last slide viewed

CB

M S

UP

X

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33. The profit maximizing firm in Exhibit 21-2 a. finds both b and d to be the case

b. is incurring economic lossesc. breaks evend. should close immediately

C. MR = MC at C units of output. At C units of output AR = ATC, so total revenue equals total cost. Where total revenue equals total cost we say that the firm is breaking even, which means that is it making a normal profit. Remember, because normal profit (the minimum amount of profit that will keep a business owner operating the business) is a necessary expense, it is included as a cost.

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34. In order to maximize profit or minimize losses, the firm in Exhibit 21-2 should produce

a. A unitsb. B unitsc. C unitsd. more than C units

C. C units is the where MR = MC.

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35. The profit maximizing firm in Exhibit 21-2 a. has economic profit per unit equal to the

distance UXb. has economic profit per unit equal to the

distance SXc. has economic loss per unit equal to the

distance SXd. none of these

D. At the level of output where MR = MC this firm is making neither a profit or a loss but is making a normal profit (AR = AC).

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36. The profit maximizing firm in Exhibit 21-2 is

a. earning an economic profitb. incurring an economic lossc. breaking even

C. Breaking even means that it is making a normal profit.

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ATC

MC

D =MR =AR

AVC

P

QExhibit 21-3

Last slide viewed

4525

M

$366

$150

$293

40

$180

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37. The profit maximizing firm in Exhibit 21-3 a. should produce 45 units of output

b. should produce 40 units of outputc. should produce 25 units of outputd. would minimize losses by closing

A. 45 units of output is the level of output where MR = MC.

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38. The profit maximizing firm in Exhibit 21-3 a. breaks even

b. should produce slightly less than 40 units of output

c. has fixed costs of $5400d. should close immediately to minimize

losses

C. At the level of output where MR = MC average total cost (ATC) is $300 and average variable cost (AVC) is $180 so average fixed cost (AFC) is $300 minus $180 or $120; total fixed cost, therefore, is $120 x 45 or $5,400.

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39. The profit maximizing firm in Exhibit 21-3 is

a. earning a profit per unit of $66b. earning a profit per unit of $73c. earning a profit per unit of $186d. earning a profit per unit of $216

A. Profit per unit is equal to AR minus ATC at the level of output where MR = MC. In this case AR is $366 and ATC is $300, so profit per unit (on the average) is $366 minus $300 or $66.

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40. The maximum total profit the firm could earn in Exhibit 21-3

a. would be negative since the firm has an economic lossb. is $2970c. is $5400d. is $8370

B. Because this firm is making an average profit of $66 at the level of output where MR = MC and the number of units at the level of output where MR = MC is 45 units, total profit is 45 x $66 or $2970.

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41. At the profit maximizing output, the firm in Exhibit 21-3 has

a. average total cost of $150b. a total cost of $13,500c. a total variable cost of $3750d. a total cost of $9150

B. Average total cost (ATC) at 45 units is $300, so total cost (TC) at 45 units is 45 x $300 or $13,500.

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42. The firm illustrated in Exhibit 21-3 a. is both d and e

b. has all of the following characteristicsc. earns an economic profitd. is perfectly competitivee. is a price taker

B. It is earning an economic profit because AR is greater than AC at the level of output where MR = MC. This has to be a perfectly competitive firm because D = AR = MR. Any firm that is a part of a perfectly competitive industry is a price taker because it has no incentive to charge a price other than the market price.

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43. The perfectly competitive firm in Exhibit 21-3 would find it in its best interest to stop producing immediately if the market’s equilibrium price falls below

a. $293b. $180c. $150d. $366

C. If the market price were to fall below $150 (where MC intersect AVC) its losses would exceed its fixed cost and therefore should close down.

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44. How will a decrease in the equilibrium price in the market of a perfectly competitive industry affect the total revenue and the economic profit of a typical firm?a. both total revenue and economic profit will

decrease at all rates of outputb. total revenue and economic profit may

increase or decrease, although they will be directly related to each other

c. it is impossible to predictA. Because total revenue (TR) equals price (P)

times quantity (Q), when price declines, TR declines. Economic profit (profit) is average revenue (AR) minus average total cost (ATC), so when AR declines, so does profit.

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45. A decrease in market price in a perfectly competitive industry

a. does not affect the total revenue curve of the typical firmb. shifts the total revenue curve of the typical

firm to the left, without changing its slopec. shifts the total revenue curve of the typical

firm to the right, without changing its sloped. reduces the slope of the total revenue curve

of the typical firmD. Reducing the slope means that the curve

becomes more horizontal (elastic). As the market price decreases less revenue (measured on the vertical axis) is added to TR.

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46. Which is true with regard to the shutdown point and the break-even point for a perfectly competitive firm?a. they are two names for the same pointb. the shutdown point is minimum average

variable cost and the break-even point is minimum average total cost

c. the shutdown point is minimum average total cost and the break-even point is minimum average variable cost

d. the shutdown point is minimum average variable cost and the break-even point is minimum average fixed cost

B.

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47.The perfectly competitive firm’s short-run supply curve is the same as the

a. supply curve of all other firms in the industryb. upward-sloping portion of its MR curvec. upward-sloping portion of its marginal cost

curve at or above the minimum AVC curveC. A supply curve shows how many units will

be supplied at various prices. Because a firm will produce where MR = MC, the intersection of MR and MC shows us how many units will be supplied at various prices. Below the AVC curve a firm will shut down, therefore, the supply curve is irrelevant below this point.

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48. In a Dutch auction, a. bidding starts a a high price and decreases

until a buyer stops the clockb. bidding starts at a low price and increases

until only one buyer remainsc. bidding is done in sealed envelopes, with

the high bid winningd. any buyer or seller may announce a bid or

an offer to the entire market at any time

A. Interesting!

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49. Positive short-run economic profita. may occur even if accounting profit is

negativeb. attracts resources into an industryc. creates incentives for resources to leave an

industryd. can never occur in perfect competition

B. The lower are the barriers to entry, the more likely that firms will enter into the industry to partake in the economic profits being made.

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50. Which characteristic of perfect competition ensures that economic profit will be zero in the long run?a. each firm’s output is small in relation to

total market supplyb. the product is homogeneousc. there is freedom of entry and exit in the

market

C. In a perfectly competitive industry there are almost no barriers to entry or exit. Therefore, when a profit is made, firms will easily enter the industry. Likewise, when losses are made, some firms will easily leave the industry.

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51. Which of the following is not a condition of long-run equilibrium for perfectly competitive firms?

a. price is equal to marginal costb. price is equal to minimum short-run

average total costc. price is equal to minimum long-run

average costd. economic profit is positive

D. In long-run equilibrium, a firm in a perfectly competitive industry will make a normal profit (zero economic profit).

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52. Consider a perfectly-competitive, constant-cost industry in long-run equilibrium which experiences a decrease in demand. What happens after long-run adjustments?

a. price and output both remain unchanged, although profit has decreasedb. price has fallen and profit is lower, but

output remains unchangedc. price and profit ultimately remain

unchanged, but market output has been reduced by some firms leaving the industry

C. A constant cost industry is one that can expand or contract without effecting the long-run per-unit cost of production; the long-run industry supply curve is horizontal.

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53. Consider a perfectly-competitive, decreasing-cost industry in long-run equilibrium which experiences a decrease in demand. What happens after long-run adjustments?

a. profits has decreaseb. price has risen and output has been reduced

by some firms leaving the industry, but profit ultimately remains unchanged

c. in the long run, there would be no changes in price, output, or profit

B. A decreasing cost industry is the rare case in which an industry faces lower per-unit production costs as industry output expands in the long run; the long-run industry supply curve slopes downward.

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54. Consider a perfectly competitive market in long-run equilibrium. What adjustments take place during the short-run when there is a decrease in market demand?

a. price and output remain unchanged, although profit decreasesb. price and profit fall, but output remains

unchangedc. price and profit fall, and firms reduce output

by using existing capacity less intensivelyC. The short-run is a period of time that a

firms can change output but cannot change their capacity to produce. The long-run is a period of time which firms can change their plant capacity.

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55. The long-run industry supply curve in a perfectly competitive market

a. is the horizontal sum of each firm’s short-run supply curvesb. illustrates what happens to average costs as

industry output increases c. illustrates what happens to average costs as

a firm increases its output

A. Theoretically, if we can determine the supply curve for each firm in the industry, and then add the curves horizontally, the result would be the industry’s supply curve.

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56. A constant-cost industry is distinguished by the fact that

a. firms’ long-run average cost curve are horizontalb. firms’ short-run marginal cost curves are

horizontalc. firms’ short-run average total cost curves

are horizontal d. the long-run industry supply curve is

perfectly elasticD. Perfectly elastic means perfectly horizontal.

In this case, the firm can change output without effecting costs.

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57. If an increase in industry output pushes resource prices higher, then

a. it is an increasing-cost industryb. firms’ long-run average cost curves are

upward-slopingc. firms’ short-run marginal cost curves are

upward-slopingd. firms’ short-run average total cost curves

are upward-slopingA. The supply curve in an increasing-cost

industry is less elastic (more horizontal) then is the case in a constant-cost industry. In this case, as industry output increases, per unit costs will increase.

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58. Decreasing-cost industries a. are the most common industry type in the

real worldb. occur only when costs are independent of

the number of firms in the marketc. occur when average costs increase as the

number of firms increasesd. occur when average costs decrease as the

number of firms increasesD. This is a rare case. Supply curves are

almost always upward sloping (they have a positive slope). But in this case, the long-run industry supply curve is downward sloping (it has a negative slope).

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59. The choice of which goods to produce, and how to distribute these goods, falls under the concept ofa. technological efficiencyb. productive efficiencyc. allocative efficiencyd. economic efficiency

C. A basic question for any economic system is “how do we allocate society’s scarce resources?”

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60. Productive efficiency involves a. producing and selling the most output

possibleb. maximizing the price of the productc. producing and selling output for the

greatest possible total revenued. producing at the lowest possible cost per

unit of output

D. Once society decides what to produce, it has to determine how to produce goods and services the most efficient way possible.

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61. When market exchange occurs voluntarily in a perfectly competitive market,

a. the choice incurs no opportunity costb. the combination of consumer surplus and

producer surplus is maximizedc. both consumer surplus and producer

surplus are eliminatedd. buyers benefit at the expense of producers

B. Consumer surplus is the difference between the maximum amount that a consumer is willing to pay for a given quantity of a good and what the consumer actually pays. Producer surplus is the amount by which total revenue from production exceeds total variable cost.

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62. Short-run producer surplus in competitive markets is

a. total revenue minus total costb. total revenue minus total variable costc. total revenue minus total fixed costd. price minus average total cost

B. When total revenue minus total variable cost results in producer surplus, a firm is meeting at least all of its fixed costs and some (if not all) of its variable costs. Therefore, even if the firm were making a loss, its loss would be less than its fixed cost and it would continue to operate.

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63. The definition of producer surplus ignores a. the price of the product

b. the quantity of the product soldc. price elasticity of surplusd. sunk costs

D. A sunk cost (fixed cost) is a cost that has to be paid no matter what; hence a cost that is irrelevant when an economic choice is being made.

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64. In long-run equilibrium in perfect competition, producer surplus isa. often negativeb. always positivec. always greater than consumer surplusd. smaller than in the short run

D. If producer surplus is defined narrowly as total revenue minus total variable cost, producer surplus in the long run for perfectly competitive industries is zero. In long run equilibrium, all costs are variable and total cost equals total revenue, so there is no (zero) producer surplus.

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65. Posted-offer pricinga. is rarely, if ever, seen in U.S. retail marketsb. adjusts to changing market conditions

more quickly and efficiently than does a double continuous auction

c. is another name for a double continuous auction

d. involves low transaction costs in large, stable markets

D. In most U.S. retail markets, such as supermarkets and department stores, use posted-offer pricing - that is, the price is marked, not negotiated.

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