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IAI Actuarial Core Principles · Business Economics · Profit maximisation under perfect competition and monopoly

A firm's fixed costs rise because of a higher annual licence fee, with no change in marginal cost or demand. In the short run, what happens to its profit-maximising output?

Output is unchanged, though profit falls. A higher fixed cost does not alter marginal cost or marginal revenue, so the MR = MC output stays the same while total profit is reduced by the added fixed cost.

  1. AIt falls because average cost has risen
  2. BIt rises to spread the fixed cost
  3. CIt is unchanged, though profit fallsCorrect
  4. DIt becomes zero immediately
  5. It rises only if the firm is a monopolist

Explanation

Fixed costs do not enter marginal cost, so the MR = MC condition gives the same output. Total profit falls by the amount of the extra fixed cost. Output changes only if the firm shuts down, which depends on whether revenue covers variable costs.

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