Question

In a perfect competition model, the change in which of the following costs/imposition of taxes does not affect the equilibrium position of the firm in the short run.
(A). Increase in fixed cost
(B). Imposition of lump-sum tax
(C). Imposition of profit tax
(D). Imposition of specific sales tax (Per unit of output)

Choose the correct answer from the options given below:

• A. (A), (B) and (C) only.
• B. (A), (B) and (D) only.
• C. (A), (B), (C) and (D).
• D. (B), (C) and (D) only.

Hint:

In perfect competition, only changes affecting marginal cost (e.g., per-unit taxes) alter short-run output; fixed costs/taxes don’t.

Answer 1

The Correct Option is A

In a perfectly competitive market, firms are price takers, and the short-run equilibrium output is determined where marginal cost (MC) equals marginal revenue (MR), which equals the market price (P). Changes that affect MC shift the equilibrium output, while those that don’t affect MC leave output unchanged. - (A) Increase in fixed cost: Fixed costs (e.g., rent) do not affect MC, as MC depends on variable costs (e.g., labor, materials). Thus, equilibrium output remains unchanged, though profits decrease. - (B) Lump-sum tax: A lump-sum tax is a fixed amount, independent of output, acting like a fixed cost. It does not alter MC, so equilibrium output is unaffected, but profits are reduced. - (C) Profit tax: A tax on profits reduces net profit but does not affect MC or the output decision, as firms still maximize profit where MC = MR. - (D) Specific sales tax (per unit): A per-unit tax increases the variable cost of production, shifting the MC curve upward. This changes the equilibrium output, as firms produce less to equate the new MC with MR. Thus, (A), (B), and (C) do not affect the short-run equilibrium output, making option (1) correct.

Answer 2

Marginal-cost test:
In perfect competition, the short-run equilibrium output is fixed strictly by the condition \( MC = MR = P \); only changes that shift the marginal cost curve alter this output. Fixed cost and a lump-sum tax both add a constant amount independent of output, so they leave MC, and hence equilibrium output, untouched, though they reduce total profit. A profit tax is levied on the profit remaining after the output decision is made, so it too leaves MC unaffected. Only a specific, per-unit sales tax adds a constant amount to the cost of every additional unit, raising MC, which shifts the equilibrium output. Hence only fixed cost, lump-sum tax and profit tax leave equilibrium unaffected, matching option 1.