### Long run average cost curve decreases

##### Reference no: EM131001193

Suppose there are two firms with one demand function. This same (common) demand function is:

Q = 1,000 – 40P;        P = 25 – 0.025Q & MR = 25 – 0.05Q

However, each firm has its own cost function. These two different cost functions are shown below respectively: Note: variable cost (VC) = MC in a linear (straight line) cost equation.

Firm 1: TC =   4,000 + 5Q

Firm 2: TC =   3,000 + 7Q

What are the optimum prices (Ps) and quantities (Qs) for each firm? Which firm, firm #1 or firm #2 produce more and why?

If price war breaks out, price will fall. Two most likely prices are \$13 and \$12, which is around breakeven quantity (BEQ) of two cost functions. Which firm, firm #1 or firm #2, is more vulnerable to price war when P = \$13 why?

Which firm, firm #1 or firm #2 is more vulnerable to price war when P = \$12 and why?

What are the factors that played the role in your answer in (b) and (c)?

Long run average cost curve decreases when there is an economy of scale (when LRAC curve negatively sloped.) What is the implication of your answer in (b) and (c) for the shape of long run average cost curve?

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