Firm’s Equilibrium – MC = MR Approach
Every firm aims at profit maximisation (in basic theory). The MC = MR approach is widely used to find equilibrium output.
1. Meaning of Firm’s Equilibrium
A firm is in equilibrium when it earns maximum profit and has no tendency to change its existing output level.
Profit (π) = Total Revenue (TR) − Total Cost (TC).
But instead of TR–TC, we use MR and MC for easier analysis.
2. Marginal Revenue (MR) and Marginal Cost (MC)
- MR – addition to TR when one more unit of output is sold.
- MC – addition to TC when one more unit of output is produced.
MR = ΔTR / ΔQ, MC = ΔTC / ΔQ
Perfect Competition Case
Under perfect competition, MR = Price (P) because firm can sell extra units at same price.
3. Conditions for Firm’s Equilibrium (MC = MR)
Two conditions must be satisfied:
- MC = MR (first-order condition)
- MC curve cuts MR from below or MC is rising at point of equality (second-order condition)
If MC = MR but MC is falling, firm may increase profit by changing output.
Step 1"Draw downward MR (imperfect competition) or horizontal MR (perfect competition)"
↓
Step 2"Draw U-shaped MC curve"
↓
Step 3"Equilibrium at output where MC = MR and MC is rising"
4. Numerical Illustration
| Output (Q) | Price / MR (₹) | TR (₹) | TC (₹) | MC (₹) | Profit (TR − TC) |
|---|---|---|---|---|---|
| 0 | - | 0 | 20 | - | -20 |
| 1 | 10 | 10 | 25 | 5 | -15 |
| 2 | 10 | 20 | 30 | 5 | -10 |
| 3 | 10 | 30 | 32 | 2 | -2 |
| 4 | 10 | 40 | 38 | 6 | 2 |
| 5 | 10 | 50 | 50 | 12 | 0 |
Finding Equilibrium Output
| Step 1 (Compute TR = P × Q and MC = ΔTC.) | |
| Add: Step 2 (Locate output where MC equals MR (here MR = 10).) | |
| Add: Step 3 (Check that MC is rising at that output. That output is profit-maximising equilibrium.) |
5. Quick Revision Points
- Firm’s equilibrium: profit maximisation.
- Conditions: MC = MR and MC rising at point of equality.
- Under perfect competition, MR = Price.
6. Quiz Time 🎯
Test Your Knowledge
Question 1 of 5
1. Firm is in equilibrium when: