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## AP®︎/College Microeconomics

### Course: AP®︎/College Microeconomics>Unit 3

Lesson 6: Firms’ Short-run Decisions to Produce and Long-Run Decisions to Enter or Exit a Market

# Shutting down or exiting industry based on price

A firm shut's down temporarily when it can't cover its variable cost, but it exits the industry for good when it's economic profits are negative. In this video, learn more about how to use a graph of cost curves to determine when a firm shuts down, enters an industry, or exits an industry.

## Want to join the conversation?

• Why would price levels below average variable cost lead to immediate shutdown? Doesn't the firm stand to offset fixed costs by continuing to produce?
• Imagine if you bought a food truck, then realized it was going to cost you \$7 for the ingredients for each burger, and the market price was \$5. Making each burger would be a \$2 loss, so you would not produce at all. This is a situation where average variable costs are greater than price.
• Does AVT always include the opportunity cost?
(I mean, if a firm is willing to produce at MC=MR, AVT = P, it means that they are breaking even and making financial profit, not 0 financial profit, right?)
• No, AVT (average variable cost) does not always include the opportunity cost. AVT is calculated by dividing the total variable cost by the quantity of goods or services produced. It represents the average cost of producing each unit of output in the short run, which includes only the variable costs, such as labor and raw materials.

Opportunity cost, on the other hand, refers to the value of the best alternative forgone when a particular decision is made. It is not typically included in the calculation of AVT.

When a firm is producing at MC=MR (marginal cost equals marginal revenue), it means they are maximizing their profit. However, in order to determine whether they are making a financial profit or breaking even, we need to compare the average total cost (AVC) with the price (P). If AVT is equal to P, it means the firm is breaking even, covering all its variable costs but not earning a financial profit. To make a financial profit, the price should exceed the average total cost (ATC).
(1 vote)
• what is a price taker?
• In economics, a price taker refers to a market participant or firm that is unable to influence the market price of a product or service. They must accept the prevailing market price as determined by the forces of supply and demand. Price takers have no market power and must adjust their quantity of output or consumption based on the given price in the market. They typically operate in perfectly competitive markets where there are many buyers and sellers, homogeneous products, no barriers to entry, and perfect information. An individual firm's actions have negligible impact on market conditions, so they have to accept the market-determined price to maximize their profits.
(1 vote)
• How could it be possible for a firm's MR for every unit of output to be higher than it's MC (basically, for every incremental unit of output the firm is making more revenue than it cost them), but the firm's total revenue is still lower than the total variable cost?

They earned a profit on every incremental unit of output, so shouldn't the total revenue be greater than total variable cost?

Also, does the AVC curve not have to start off at the same place as the MC curve, since for the first unit of output, they are the same?