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Unit 9: Market Structure – Perfect Competition
The fact that a firm is in short run equilibrium does not necessarily mean that it makes excess Notes
profits – whether the firm makes excess profits or losses depends on the level of the ATC at the
short run equilibrium. If the ATC is below the price at equilibrium (Figure 9.4), the firm earns
excess (equal to the area PABE). If, however, the ATC is above the price (Figure 9.5), the firm
makes a loss (equal to the area FPeC). In the latter case the firm will continue to produce only if
it covers its variable costs. Otherwise it will close down, since by discontinuing its operations
the firm is better off: it minimises its losses. The point at which the firm covers its variable costs
is called "the closing down point". In Figure 9.6 the closing down point of the firm is denoted by
point W. If price falls below P the firm does not cover its variable costs and is better off if it
w
closes down.
Figure 9.4
Figure 9.5
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