Paper 3 · November 2004 · Market Structures
At which price level does a perfectly competitive firm in the short run earn exactly normal profit, covering all its costs including the opportunity cost of capital, but no supernormal profit?
APrice equal to marginal cost only, the general condition for profit-maximising output at any output level.
BPrice equal to average total cost, so total revenue exactly covers all costs including a normal return to capital.
CPrice equal to average fixed cost, so overheads are exactly recovered from each unit sold.
DPrice equal to average variable cost, the point at which the firm is exactly indifferent between continuing to produce and shutting down altogether.
Explanation
Average total cost already includes the opportunity cost of capital as a normal return, so when price equals average total cost, total revenue covers every cost of production exactly, leaving zero economic (supernormal) profit but a normal profit. Price equalling marginal cost is the general profit-maximising rule and holds at every output level, not specifically the normal-profit output, while price equal to AVC is instead the shutdown point.
Derived from ZIMSEC Economics Paper 3, November 2004, Q4