Association of Chartered Certified Accountants (ACCA) Certification Practice Test

In the short run, what part of the marginal cost (MC) curve represents the firm's supply curve?

1. The entire MC curve

2. The part of the MC curve below the average variable cost (AVC) curve

3. The part of the MC curve shown above the average variable cost (AVC) curve

4. Only the portion to the right of the average total cost (ATC) curve

The correct answer is: The part of the MC curve shown above the average variable cost (AVC) curve

The correct answer highlights the relationship between marginal cost (MC) and average variable cost (AVC) within the context of a firm's supply decisions in the short run. In this scenario, the firm will only choose to produce and supply goods when the price exceeds the AVC. This is because, in the short run, a firm can continue to operate as long as it covers its variable costs, even if it does not cover total costs. The portion of the MC curve that is above the AVC curve indicates the price level where the firm can earn enough revenue to cover its variable costs and contribute to fixed costs. If the price falls below the AVC, the firm would incur losses greater than its fixed costs by being in operation, and thus it would choose to shut down temporarily. As a result, the part of the MC curve that serves as the supply curve is specifically that which lies above the AVC, reflecting the conditions under which the firm is willing to supply its products to the market. Understanding this relationship is vital for assessing how firms react to changes in market prices and helps in determining the supply behavior in different market conditions.