Zero Profit

Definition

Zero profit refers to a situation where a firm's total revenue exactly equals its total cost, resulting in no economic profit or loss. This concept is particularly relevant in the context of a firm's entry and exit decisions in the long run.

5 Must Know Facts For Your Next Test

1. In a perfectly competitive market, firms will enter or exit the industry until the market price is driven down to the point where economic profit is zero.
2. The zero-profit condition ensures that firms are earning just enough revenue to cover their economic costs, including the opportunity cost of their resources.
3. At the zero-profit point, firms are earning normal profit, which is the minimum level of profit required to keep them in business in the long run.
4. The zero-profit condition is a key factor in determining a firm's long-run supply curve, as it influences the firm's entry and exit decisions.
5. Firms will continue to operate in the short run as long as they are able to cover their variable costs, even if they are not earning any economic profit.

Review Questions

• Explain how the zero-profit condition relates to a firm's entry and exit decisions in the long run.
  • The zero-profit condition is a crucial factor in a firm's long-run entry and exit decisions. In a perfectly competitive market, firms will continue to enter the industry until the market price is driven down to the point where economic profit is zero. At this point, firms are earning just enough revenue to cover their economic costs, including the opportunity cost of their resources. Firms will remain in the industry as long as they are able to earn at least normal profit, which is the minimum level of profit required to keep them in business in the long run. If market conditions change and firms can no longer earn normal profit, they will eventually exit the industry.
• Describe the relationship between the zero-profit condition and a firm's long-run supply curve.
  • The zero-profit condition is a key determinant of a firm's long-run supply curve. As new firms enter the industry, the market price is driven down until it reaches the point where economic profit is zero. At this point, the firm's long-run supply curve is determined by its minimum efficient scale, which is the level of output at which the firm can produce at the lowest possible average cost. The zero-profit condition ensures that firms are operating at their minimum efficient scale, as any deviation from this point would result in positive or negative economic profit, leading to further entry or exit of firms until the zero-profit condition is restored.
• Analyze how the zero-profit condition affects a firm's decision to continue operating in the short run.
  • Even if a firm is not earning any economic profit in the long run due to the zero-profit condition, it may still choose to continue operating in the short run as long as it is able to cover its variable costs. This is because the firm has already incurred its fixed costs, and any revenue generated above its variable costs will contribute to covering those fixed costs, even if it is not earning a profit. However, if the firm's revenue falls below its variable costs, it will reach its shutdown point, at which point it will no longer be profitable to continue operating in the short run. The zero-profit condition is a key factor in determining the firm's long-run supply curve, but it does not necessarily dictate the firm's short-run operating decisions.

Related terms

Economic Profit:

The difference between a firm's total revenue and its total economic costs, including opportunity costs.

Normal Profit:

The minimum level of profit required to keep a firm in business in the long run, equal to the opportunity cost of the firm's resources.

Shutdown Point:

The point at which a firm's revenue is just enough to cover its variable costs, and it is no longer profitable to continue operating in the short run.