Bubba's Burgers sells hamburgers in a perfectly competitive market at a price of $1.50 each. At the profit-maximizing (cost-minimizing) level of output, average total cost is $1.90 per hamburger and average variable cost is $1.75 per hamburger. Should the firm continue to operate in the short run? Explain.
To determine whether Bubba's Burgers should continue to operate in the short run, we need to analyze the profitability of the company.
In a perfectly competitive market, firms maximize profits by producing at the level of output where marginal cost equals marginal revenue. Since Bubba's Burgers is operating at the profit-maximizing level of output, it implies that the marginal cost of producing one more hamburger is equal to the price ($1.50) that they sell it for.
Given that the average total cost (ATC) is $1.90 per hamburger and the average variable cost (AVC) is $1.75 per hamburger, we can infer that the average fixed cost (AFC) is the difference between the two: AFC = ATC - AVC = $1.90 - $1.75 = $0.15.
In the short run, a firm should continue to operate as long as it covers its variable costs. This means that as long as the price ($1.50) is greater than or equal to the average variable cost ($1.75), the firm is able to cover its variable costs and should continue to operate.
However, it is important to note that although Bubba's Burgers is able to cover its variable costs, it is not covering its total costs. The price ($1.50) is less than the average total cost ($1.90), resulting in a loss of $0.40 per hamburger ($1.90 - $1.50 = $0.40).
Therefore, Bubba's Burgers should continue to operate in the short run, but it is incurring losses. The firm needs to assess its long-term prospects and consider strategies to reduce costs or increase revenue to achieve profitability.