The following graph shows the market demand and average cost curve for electricity (in millions of kilowatts)in an urban centre:

-Refer to the above graph to answer this question.Suppose that the price is $3,and the market is served by two competing firms,each having 50% of the market.What will be the profit or loss made by each firm?
A)$0.
B)Loss of $50.
C)Loss of $100.
D)Loss of $150.
E)Profit of $100.

Question

The following graph shows the market demand and average cost curve for electricity (in millions of kilowatts)in an urban centre:
 
-Refer to the above graph to answer this question.Suppose that the price is $3,and the market is served by two competing firms,each having 50% of the market.What will be the profit or loss made by each firm?
A)$0. 
B)Loss of $50. 
C)Loss of $100. 
D)Loss of $150. 
E)Profit of $100.

Quizplus · Accepted Answer

At a price of $3, the quantity demanded in the market is 6 million kilowatts. At this quantity, the intersection of the market demand curve with the marginal cost curve of each firm is at a quantity of 3 million kilowatts. Therefore, each firm produces 3 million kilowatts.

The average cost at this output level is $5. Thus, the price of $3 is below the average cost, and each firm incurs a loss of $2 per kilowatt. Therefore, each firm's total loss is:

Loss = 2 ($/kilowatt) x 3 (million kilowatts) = $6 million

Since there are two firms, each with a 50% market share, each firm's share of the total loss is:

$6 million / 2 = $3 million

Therefore, each firm incurs a loss of $3 million, which is choice D.

The Following Graph Shows the Market Demand and Average Cost