3.7 Profit Maximization

The Profit-Maximizing Rule

Firms maximize profit by producing where Marginal Revenue (MR) = Marginal Cost (MC). If MR > MC, producing another unit adds more revenue than cost, so output should increase. If MR < MC, that unit costs more than it earns, so output should decrease. The MR = MC quantity is the profit-maximizing (or loss-minimizing) output level for any firm, regardless of market structure.

Calculating Profit at the MR=MC Quantity

Once the profit-maximizing quantity (Q*) is found using MR = MC, total profit equals (Price − Average Total Cost) × Quantity. If Price > ATC, the firm earns a positive economic profit. If Price = ATC, the firm earns zero economic profit (breaking even). If Price < ATC, the firm incurs an economic loss, though it may still operate short-run if Price > AVC.

Graphing Profit or Loss

On a graph, find Q* where MC crosses MR. Draw straight up to the demand/price line to find Price, then to the ATC curve to find cost per unit. The rectangle between Price and ATC, over the range from 0 to Q*, represents total profit (if Price > ATC) or total loss (if Price < ATC). This visual rectangle is essential for graphical analysis.

Key terms

Profit-maximizing rule

Produce where Marginal Revenue (MR) = Marginal Cost (MC).

What to do if MR > MC?

Increase output — the next unit adds more revenue than cost.

What to do if MC > MR?

Decrease output — the last unit cost more than it earned.

Total profit formula

(Price − Average Total Cost) × Quantity produced at Q*.

Profit rectangle on a graph

The area between Price and ATC, from 0 to Q*, showing total profit or loss.

Try an AP-style question

A firm maximizes profit where…

1. P = AVC
2. TR = TC
3. MC is lowest
4. MR = MC