CMA Foundation · Fundamentals of Business Economics and Management · Utility, Wealth, Production
A firm's economist says: 'Producing the 501st unit will add ₹40 to cost and ₹55 to revenue, so we should expand output.' Another economist objects that average cost per unit is ₹48 and average revenue is ₹52, and therefore argues that expansion is unwise. Under the marginal principle used in business economics, which statement is correct?
Expansion is justified because marginal revenue of ₹55 exceeds marginal cost of ₹40, adding ₹15 to profit. Business economics uses the marginal or incremental principle, judging decisions on additional revenue versus additional cost, not on average figures spread over earlier units.
- AExpansion is unwise because average cost is close to average revenue
- BExpansion is unwise because average revenue exceeds marginal cost
- CExpansion is justified, since marginal revenue exceeds marginal cost and adds ₹15 to profitCorrect
- DExpansion is justified only if average cost exceeds marginal cost
Explanation
The marginal principle says a decision should be judged by the change in revenue versus the change in cost. Marginal revenue ₹55 minus marginal cost ₹40 gives an extra profit of ₹15, so expansion adds to profit. Average figures describe past output and do not decide the incremental choice.
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