Equilibrium of Firm : by Clines of Total Revenue and Total Cost
A rational entrepreneur will expand output if he thinks he can increase his profits by doing so and he will likewise contract output if thereby he can avoid losses and thus increase profits. lie will be in equilibrium position at the level of output where his money profits are the maximum. In other words, he will then have no inducement either to expand or contract his output when he is earning maximum money profits. Now, profits arc the difference between total revenue and total cost. Hence, the point where this difference is the maximum will represent the position of maximum profits and, therefore, of equilibrium. A cost-revenue situation of a hypothetical finn where TC represents total cost curve and TR represents the total revenue curve. It will be noted that total cost curve TC starts not at the origin but at the height of OF. This is so because it is assumed that even if the firm produces nothing (or shuts down), it has to bear certain costs of production due to fixed factors. These are the fixed costs. Break-CHI! Print. From the figure, it is clear that at any output smaller than OL, total cost exceeds total revenue and the firm is having losses. At the output OL total cost equals total revenue and the firm is having neither losses nor profits, This point L is called ‘Link-l’I(‘1I point’. At the outputs larger than ON, tl c total revenue is less than total cost so that the firm having losses. Point N is again a break-even point. wecn OL and ON will lie the optimum point of maxim n profits.
I ituitations. This way of finding out of point of maximum profits by total revenue and total cost curves is reasonable and is also often used by businessmen but it has some limitations: First. maximum vertical distance between the total revenue and total cost curve is difficult to see at a glance. Many tangents have to be drawn before one reaches the appropriate one corresponding to the maximum profit point. Secondly. in this method. it is not possible to discover price per unit at various outputs at first sight. Total revenue has to be divided by total number of units produced in order 10 gel the price per unit. For example. at the equilibrium output OM the price can be found by dividing MP by OM.