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The VCR manufacturing business is perfectly competitive. Suppose that currently firms which manufacture VCR's utilize either technology 1 or technology 2, whose cost functions are given below:

TC1(Q) = 1060-60Q + Q^2

TC2(Q) = 560-40Q+ Q^2

In the long run, assuming no new manufacturing technologies, what will happen in this industry?

The question is asking that whether the firms using technology 1 or technology 2 will stay in business.

So what i did here is the following. In the long run the firms produce at the minimum point of the Average cost. So from the TC function I divided by Q to get the AC, and minimized it. According to my reasoning, the technology that allows Minimum Average Cost should stay in business.

The Minimum average cost for technology 1 is 5.11; and for technology 2 it is 7.32.

However, I am unable to get the right answer from among these options:

a) Firms utilizing technology 1 will stay in business, and firms utilizing technology 2 will also stay in business.

(b) Firms utilizing technology 1 will stay in business, but firms utilizing technology 2 will shut down.

(c) Firms utilizing technology 1 will shut down, but firms utilizing technology 2 will stay in business.

(d) Firms utilizing technology 1 will shut down, and firms utilizing technology 2 will also shut down.

(e) None of the above.

mlc
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gul
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2 Answers2

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Your computation of average cost is fine. Why should the minimum average costs match? Wouldn't you expect the population to have only firms using technology 1, to get the lowest cost, and to be producing at the quantity that achieves that cost? Then the number of firms is the demand divided by the optimum manufacturing quantity.

Ross Millikan
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You correctly claim that "the technology that allows Minimum Average Cost should stay in business". You have shown that Technology 1 has the minimum average cost. So the answer should be (b).

mlc
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