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4. A firm will exit a market if the revenue it would get if it stayed in business is less than its total cost. This occurs if price is less than average total cost.

5. A firm's price equalsmarginal cost in both the short run and the long run. In both the short run and the long run, price equals marginal revenue. The firm should increase output as long as marginal revenue exceeds marginalcost, and reduce output if marginal revenue is less than marginal cost. Profits are maximized when marginal revenue equals marginal cost.

6. The firm's price equals the minimum of average totalcost only in the long run. In the short run, price may be greater than average total cost, in which case the firm is making profits, or price may be less than average total cost, in which case the firmis making losses. But the situation is different in the long run. If firms are making profits, other firms will enter the industry, which will lower the price of the good. If firms are makinglosses, they will exit the industry, which will raise the price of the good. Entry or exit continues until firms are making neither profits nor losses. At that point, price equals average total cost.7. Market supply curves are typically more elastic in the long run than in the short run. In a competitive market, since entry or exit occurs until price equals the minimum of average total cost, thesupply curve is perfectly elastic in the long run.

Problems and Applications

1. A competitive market is one in which: (1) there are many buyers and many sellers in the market; (2) the goodsoffered by the various sellers are largely the same; and (3) usually firms can freely enter or exit the market. Of these goods, bottled water is probably the closest to a competitive market. Tapwater is a natural monopoly because there's only one seller. Cola and beer are not perfectly competitive because every brand is slightly different.

2. Since a new customer is offering to pay $300...
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