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3. Profit maximization using total cost and total revenue curves Suppose Lorenzo runs a small business that manufactures shirts. Assume that the market for shirts is a competitive market, and the market price is $25 per shirt. The following graph shows Lorenzo's total cost curve. Use the blue points (circle symbol) to plot total revenue and the green points (triangle symbol) to plot profit for shirts quantities zero through seven (inclusive) that Lorenzo produces. 200 175 1 Total Revenue 150 Total Cost D A 125 Profit 100 TOTAL COST AND REVENUE (Dollars) 50 O 0 -25 0 1 2 4 7 8 3 QUANTITY (Shirts) Calculate Lorenzo's marginal revenue and marginal cost for the first seven shirts he produces, and plot them on the following graph. Use the blue points (circle symbol) to plot marginal revenue and the orange points (square symbol) to plot marginal cost at each quantity. •1 total cost and profit 40 total cost and marginal revenue 35 marginal cost and total revenue Marginal Revenue marginal cost and marginal revenue 30 total cost and total revenue 25 Marginal Cost total revenue and profit COSTS AND REVENUE (Dollars per shirt) 15 Profit - MR - MC greater 10 TC = TR less MC-TR 5 Profit-TR - TC 0 P = MC 0 1 2 3 4 5 6 7 8 QUANTITY (Shirts) Lorenzo's profit is maximized when he produces shirts. When he does this, the marginal cost of the last shirt he produces is which is •2_than the price Lorenzo receives for each shirt he sells. The marginal cost of producing an additional shirt (that is, one more shirt than would maximize his profit) is $ which is *2 than the price Lorenzo receives for each shirt he sells. Therefore, Lorenzo's profit-maximizing quantity corresponds to the intersection of the curves. Because Lorenzo is a price taker, this last condition can also be written as 3

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