Draw the shutdown point and say when a loss-making firm keeps producing, shuts down or leaves
6 min
4 questions
Key terms
Shutdown point
The shutdown point is where the marginal cost curve crosses the average variable cost curve, marking the price below which a firm cannot cover its variable costs.
Break-even point
The break-even point is where the marginal cost curve crosses the average cost curve, marking the price at which the firm earns only normal profit.
A firm keeps producing at a loss while price covers average variable cost
1 of 3
CostsMC cuts AVC and ATC at their lowest points.
Price moves down from P1 to P2 and output from Q1 to Q2: P2 is below average total cost but above average variable cost, so production continues.
The firm is a price taker, so price is its marginal revenue, and it produces where P = MC. At P1 price is above ATC, so it earns supernormal profit, area A.
At P2 price is below ATC, so the firm makes a loss, area B. Shutting down would cut variable costs to zero, but fixed costs such as rent are already committed and must still be paid.
P2 is above AVC, so each unit sold pays its variable cost and leaves something towards fixed costs.