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Market Adjustments and Firm Behavior
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A perfectly competitive firm is experiencing economic losses due to decreased demand for its product. Which of the following actions would be the most appropriate for the firm to take in order to adjust to market conditions and potentially return to profitability?

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Choose the Best Answer

A

Increase production to lower average total costs despite current losses

B

Decrease production to the point where marginal cost equals marginal revenue

C

Raise prices to match the average total cost and cover losses

D

Exit the market immediately to avoid further losses

Understanding the Answer

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Answer

When a perfectly competitive firm faces economic losses because of decreased demand, it needs to adjust its operations to improve its financial situation. One effective action is to reduce production levels to match the current demand, which can help lower costs and minimize losses. For example, if a bakery is producing 100 loaves of bread but only sells 70 due to less customer interest, cutting back to 70 loaves can help the bakery avoid wasting resources on unsold bread. Additionally, the firm could consider finding ways to lower variable costs, such as negotiating better prices for ingredients or improving efficiency. By making these adjustments, the firm can work towards returning to profitability in a challenging market.

Detailed Explanation

Decreasing production helps the firm reduce costs. Other options are incorrect because Some might think making more products will lower costs; Raising prices might seem like a way to cover losses.

Key Concepts

Market adjustments in response to economic losses
Marginal cost and marginal revenue relationship
Firm behavior in competitive markets
Topic

Market Adjustments and Firm Behavior

Difficulty

easy level question

Cognitive Level

understand

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