Authors libby rittenberg 486
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In the short run, a firm has one or more inputs whose quantities are fixed.
That means that in the short run the firm cannot leave its industry. Even if
it cannot cover all of its costs, including both its variable and fixed costs,
going entirely out of business is not an option in the short run. The firm
may close its doors, but it must continue to pay its fixed costs. It is forced
to accept aneconomic loss, the amount by which its total cost exceeds its
total revenue.
Suppose, for example, that a manufacturer has signed a 1-year lease on
some equipment. It must make payments for this equipment during the
term of its lease, whether it produces anything or not. During the period of
the lease, the payments represent a fixed cost for the firm.
A firm that is experiencing economic losses—whose economic profits have
become negative—in the short run may either continue to produce or shut
down its operations, reducing its output to zero. It will choose the option
that minimizes its losses. The crucial test of whether to operate or shut
down lies in the relationship between price and average variable cost.
Producing to Minimize Economic Loss
Suppose the demand for radishes falls to D2, as shown in Panel (a)
of Figure 9.8 "Suffering Economic Losses in the Short Run". The market
price for radishes plunges to $0.18 per pound, which is below average total
cost. Consequently Mr. Gortari experiences negative economic profits—a
loss. Although the new market price falls short of average total cost, it still
exceeds average variable cost, shown in Panel (b) as AVC. Therefore, Mr.
Gortari should continue to produce an output at which marginal cost
Attributed to Libby Rittenberg and Timothy Tregarthen
Saylor URL: />
Saylor.org
486
