The correct answer is: D. Continue to operate as long as it covers its variable cost.
A perfectly competitive firm is a price taker, which means that it has no control over the market price of its product. If the market price is below the firm’s average variable cost, then the firm will shut down in the short run. This is because the firm will lose more money by producing and selling its product than it would by simply shutting down and paying its fixed costs. However, if the market price is above the firm’s average variable cost, then the firm will continue to operate in the short run. This is because the firm will make a profit by producing and selling its product, even though it will still be incurring some losses.
Here is a brief explanation of each option:
- Reduce the size of its plant to lower fixed costs. This option is not correct because a perfectly competitive firm has no control over its fixed costs. Fixed costs are costs that do not change in the short run, regardless of the level of output. For example, a firm’s rent is a fixed cost. If the firm reduces the size of its plant, it will still have to pay its rent, even if it is not producing any output.
- Raise the price of its product. This option is not correct because a perfectly competitive firm is a price taker. This means that the firm has no control over the market price of its product. The market price is determined by the interaction of supply and demand in the market.
- Shut down. This option is correct if the market price is below the firm’s average variable cost. This is because the firm will lose more money by producing and selling its product than it would by simply shutting down and paying its fixed costs.
- Continue to operate as long as it covers its variable cost. This option is correct if the market price is above the firm’s average variable cost. This is because the firm will make a profit by producing and selling its product, even though it will still be incurring some losses.