Photo AI
In Sicily, many households can grow lemons of the same quality as each other - Edexcel - A-Level Economics A - Question 5 - 2021 - Paper 1
Question 5
In Sicily, many households can grow lemons of the same quality as each other. Chiara decides to sell lemons at her local market, expecting to make a normal profit. S... show full transcript
Worked Solution & Example Answer:In Sicily, many households can grow lemons of the same quality as each other - Edexcel - A-Level Economics A - Question 5 - 2021 - Paper 1
Step 1
Draw diagrams showing the equilibrium positions for both the lemon market and a typical firm in the long run.
Answer
To represent the lemon market, draw a standard supply and demand graph:
-
Market Diagram:
- On the vertical axis, label 'Price' and on the horizontal axis, label 'Quantity'.
- Plot the downward sloping demand curve (D) and the upward sloping supply curve (S).
- The point where these two curves intersect indicates the market equilibrium price (Pₑ) and equilibrium quantity (Qₑ).
-
Firm Diagram:
- Draw another graph for the typical firm. Label 'Price' on the vertical axis and 'Quantity' on the horizontal axis.
- Draw a horizontal line at the market equilibrium price (Pₑ), indicating that individual firms are price takers.
- Include the demand curve for the firm (D = MR = AR), which will be horizontal as it is perfectly elastic at the market price.
- Add the average total cost (ATC) curve and marginal cost (MC) curve, with the MC curve intersecting the ATC curve at its lowest point. The point where MC=MR indicates the profit-maximizing output (Qₒ). The area between the price line and the ATC curve helps to identify normal profit, indicating that the firm is covering all costs in the long run.
Step 2
Which one of the following will exist in the short run if Chiara makes a loss?
Answer
The only correct answer is B: Allocative efficiency and productive inefficiency.
In the short run, if Chiara is making a loss, the firm is operating above the minimum point on the Average Cost (AC) curve. Therefore:
- Option A is incorrect since the firm is not operating at its minimum point on the AC curve.
- Option C is incorrect because, in this scenario, the price (P) equals marginal cost (MC), indicating that the firm is allocatively efficient.
- Option D is incorrect for similar reasons stated in A and C. Thus, the situation describes a scenario where the firm achieves allocative efficiency (P=MC) while not being productively efficient due to AC being above the price.