Looking for introductory information about profit maximizing output for producers (firms)? Look no further than DiscussEconomics’ microeconomics article section for the latest information on the economy. Let’s begin by asking: How do we know if we have maximized profits or losses?
Decision Rules for Profit-Maximization
Select a quantity where MR (marginal revenue) = MC (marginal cost) and MC “cuts” MR from below.
Using this decision rule, we have three possible profit outcomes:
1. positive (economic) profits
2. break-even (zero economic) profits
3. negative (economic) profits
So then, if a firm experiences losses, should they still produce or shut down operations?
– Think about it, a firm will shut down when the losses associated with a positive output are greater than the losses incurred if they did not produce at all (ie. fixed costs).
– Firms will shut down when profit < – TFC (Total fixed costs)
For a firm to operate it must be that: profit > – TFC
TR (total revenue) – TC (total cost) > -TFC
TR – (TFC + TVC) > -TFC
TR – TFC – TVC > – TFC
TR – TVC = 0
TR > TVC
P/Q x Q > TVC/Q
P/Q > TVC/Q
P > AVC
Rule #2: Only produce output when the price is greater than (or equal to) the average variable cost.
Next article, when to identify the shutdown point for a firm.