Producer’s Equilibrium: Meaning, Assumptions, and Determination

Producer’s Equilibrium is determined in terms of profit. Like consumers, producers also aim to maximise their satisfaction. A producer is someone who provides goods and services to consumers/customers in exchange for revenues and producers need to incur expenditure to produce those goods and services. The excess of revenues over expenditures is known as Profit. The producers aim to maximise this profit only, to maximise their satisfaction.

What is Producer’s Equilibrium?

Producer’s Equilibrium refers to the price and output combination which brings maximum profit to the producer.

An equilibrium is a state where there is no change required. Producer’s Equilibrium is defined as the state of maximum profit/minimum losses. The point where the producer does not prefer to expand or contract his/her supply is termed as Producer’s Equilibrium. The producer’s equilibrium can be determined by two approaches, the TR-TC Approach and the MR-MC Approach. A producer can achieve equilibrium under two states; when prices are constant (Perfect Competition Market) and when prices fall with the increase in output (Imperfect Competition Market).

Assumptions of Producer’s Equilibrium

Producer’s Equilibrium is attained at the point of maximum satisfaction where there is no change required in the level of output. Producers, by default, are presumed to assume the following things:

1. Profit Maximisation: Producers are assumed to aim at maximising their profits, which is the difference between total revenue and total costs.
2. Fixed Technology: The production technology and methods used by the producer are assumed to remain fixed in the short run. Technology change can typically be considered in the long run.
3. Fixed Input Prices: Prices of inputs, like labour, raw material, etc., are assumed to remain constant in the short run. In the long run, prices can vary.
4. Rational Behaviour: Producers are assumed to be rational decision-makers who make choices that are in their best economic interest.
5. Single Output: The analysis typically assumes a single product or output being produced by the producer.

Determination of Producer’s Equilibrium (TR-TC Approach)

A Producer’s Equilibrium is defined as the position of maximum satisfaction of the producer; i.e., maximum profit. Profit revolves around revenues and costs. A producer’s equilibrium is maximised when he/she maximises the difference between TR and TC. According to the TR-TC approach, the producer’s equilibrium is attained when these two conditions are fulfilled, first, the difference between TR and TC is positively maximised and second, total profits fall as more units of output are produced.

Producer’s Equilibrium (When Prices remain Constant)

When the price remains the same at all output levels, each producer aims to produce that level of output at which he/she can earn maximum profits; i.e., when the difference between TR and TC is the maximum.

Output (in units)	Price (₹)	TR (₹)	TC (₹)	Profit = TR – TC (₹)	Remarks
0	5	0	5	-5	Profit increases with an increase in output
1	5	5	3	2
2	5	10	5	5
3	5	15	6	9
4	5	20	11	9	Producer’s Equilibrium
5	5	25	17	8	Profit falls with an increase in output
6	5	30	24	6

The maximum profit of ₹9 can be achieved either by producing units 3 or unit 4. But, the producer will be at equilibrium at units 4 because at this level of output, both the conditions are satisfied; i.e., the producer is earning a profit of ₹9, and total profits falls to ₹8 after 4 units of output.

Producer’s equilibrium will be determined at OQ level of output at which vertical distance between TR and TC curve is the greatest. At this level of output, tangent to TC curve (at point G) is parallel to TR curve and the difference between both the curves (represented by distance GH) is maximum. So, the producer’s equilibrium is at OQ units of output.

Producer’s Equilibrium (When Prices Falls with Rise in Output)

When price falls with a rise in output, each producer aims to produce that level of output at which he/she can earn maximum profits; i.e., when the difference between TR and TC is maximum.

Output (in units)	Price (₹)	TR (₹)	TC (₹)	Profit = TR – TC (₹)	Remarks
0	9	0	2	-2	Profit increases with an increase in output
1	8	8	5	4
2	7	14	9	7
3	6	18	11	10
4	5	20	14	10	Producer’s Equilibrium
5	4	20	20	5	Profit falls with an increase in output
6	3	18	27	-3

The maximum profit of ₹10 can be achieved either by producing units 3 or unit 4. But, the producer will be at equilibrium at units 4 because at this level of output, both the conditions are satisfied; i.e., the producer is earning a profit of ₹10, and total profits falls to ₹5 after 4 units of output.

Producer’s equilibrium will be determined at OQ level of output at which vertical distance between TR and TC curve is the greatest. At this level of output, tangent to TC curve (at point H) is parallel to TC curve (at point H) and the difference between both the curves (represented by distance GH) is maximum. So, the producer’s equilibrium is at OQ units of output.

Determination of Producer’s Equilibrium (MR-MC Approach)

As Producer’s Equilibrium is defined as the position of maximum satisfaction of the producer; i.e., maximum profit. Profit revolves around revenues and costs. According to the MR-MC approach, two situations are needed to determine the producer’s equilibrium:

1. When MR = MC, as long as MR is smaller than MC, the producer can produce more units to sell until he/she reaches the level when MR = MC. At this point, the producer’s satisfaction is maximum. MR is the addition to TR from the sale of one more unit of the output and MC is the addition to TC for an additional unit of output produced. As long as MR > MC, the producer is in a state of excess profits, and when MR < MC, the producer is in a state of loss. Both conditions do not strike the equilibrium. A producer can achieve equilibrium only when MR = MC.

2. When MC is greater than MR, after MR = MC if producer still decides to produce more units, every additional unit will lead to more cost and less revenue, thus declining profits. MR = MC is the situation of producer’s equilibrium but it is not enough to ensure that it is the right point of producer’s equilibrium because there can be more than one point where MR = MC. So, it is important to see that, after which point MC is greater than MR to determine the right point of producer’s equilibrium.

Producer’s Equilibrium (When Prices remain Constant)

When prices remain constant, a producer can sell any level of output at the prices set up by the market. In this case, revenue from every additional unit; i.e., MR will remain equal to Price/AR. So, MR curve will be the same as AR curve. Producers aim to achieve equilibrium at the point of MR = MC, and the point beyond where MC is greater than MR.

Output (Units)	Price (₹)	TR (₹)	MR (₹)	TC (₹)	MC (₹)	Profit = TR-TC (₹)
1	10	10	10	11	11	-1
2	10	20	10	21	10	-1
3	10	30	10	28	7	2
4	10	40	10	34	6	6
5	10	50	10	44	10	6
6	10	60	10	56	12	4

According to this schedule, MR = MC is achieved at two levels of output, at 2 units and 5 units. As said above, that MR = MC can occur at multiple points and we must see the point beyond which MC will be greater than MR, to allocate right producer’s equilibrium. So, beyond point 5, MC is greater than MR. Thus, 5 units of output will be the level of producer equilibrium, and corresponding TR and TC will be ₹50 and ₹44 with a profit of ₹6.

Output is shown on the X-axis and revenue and costs on the Y-axis. Both AR and MR curves are straight line parallel to the X-axis. MC curve is U-shaped. Producer’s equilibrium will be determined by OQ level of output corresponding to point K because only at point K, the two important conditions, MR = MC, and MC is greater than MR after MC = MR output level, are satisfied.

Producer’s Equilibrium (When Prices Falls with Rise in Output)

When there is no fixed price and price falls with rise in output, MR curve slopes downwards. Producer aims to produce that level of output at which MC is equal to MR and MC curve cuts the MR curve from below.

Output (Units)	Price (₹)	TR (₹)	MR (₹)	TC (₹)	MC (₹)	Profit = TR-TC (₹)
1	8	8	8	6	6	2
2	7	14	6	11	5	3
3	6	18	4	15	4	3
4	5	20	2	20	5	0
5	4	20	0	25	5	-5

Both the conditions of producer’s equilibrium are satisfied at 3 units of output. MC is equal to MR, and MC is greater than MR when more units are produced after 3 units of output. So, Producer’s Equilibrium will be achieved at 3 units of output.

Output is shown on the X-axis and revenue and costs on the Y-axis. Producer’s equilibrium will be determined at OM level of output corresponding to Point E because at this, the the two important conditions, MR = MC, and MC is greater than MR after MC = MR output level, are satisfied.