In a perfectly competitive market, a profit maximising firm chooses its output level by following which of the following rules about price and marginal cost?

Introduction / Context:
This question tests a core principle of microeconomics: how a perfectly competitive firm decides the quantity of output that maximises its profit. In perfect competition, firms are price takers, which means they accept the market price and cannot influence it. Understanding the profit maximisation rule in terms of marginal cost and price is essential for analysing firm behaviour, deriving supply curves, and drawing cost and revenue diagrams.

Given Data / Assumptions:

• The firm operates in a perfectly competitive market.
• The firm is a price taker and faces a horizontal demand curve at the market price.
• The question asks for the condition that determines the profit maximising output level.
• The options refer to different relationships between price, marginal cost, and average total cost.

Concept / Approach:
In perfect competition, the market sets a price that the firm cannot change. The firm chooses how much to produce. The profit maximising rule is to produce where marginal cost equals marginal revenue, provided that price covers at least average variable cost. For a competitive firm, marginal revenue equals price because each additional unit sold adds exactly the price to total revenue. Therefore, the condition for optimal output becomes price equals marginal cost. Average total cost is relevant for determining whether the firm earns profit, breaks even, or incurs loss, but it does not by itself determine the profit maximising quantity.

Step-by-Step Solution:
Step 1: Recall that a profit maximising firm produces where marginal revenue equals marginal cost.Step 2: In perfect competition, marginal revenue equals price because each unit sold contributes exactly the market price to revenue.Step 3: Substituting marginal revenue with price, the condition becomes price equals marginal cost.Step 4: The firm then chooses the quantity at which its marginal cost curve intersects the given price, as long as price is not below average variable cost.Step 5: Setting price equal to or greater than marginal cost is too vague; profit maximisation requires equality at the chosen output, not just inequality.Step 6: Setting output such that price equals average total cost leads to zero profit but does not necessarily maximise profit; it may be a special case.Step 7: Setting price above marginal cost is not possible in perfect competition because the firm cannot choose price; the market determines it.

Verification / Alternative check:
Graphically, for a perfectly competitive firm, the demand curve is horizontal at the market price. The marginal revenue curve coincides with that line. The marginal cost curve typically slopes upwards. The equilibrium output is determined at the intersection of the marginal cost curve and the horizontal price line. This intersection point satisfies price equals marginal cost. At this quantity, any expansion would add more to cost than to revenue, reducing profit, and any reduction would mean the firm is not taking advantage of profitable opportunities. This visual reasoning supports the algebraic result that the profit maximising output occurs where price equals marginal cost.

Why Other Options Are Wrong:
Setting price such that price is equal to or greater than its marginal costs: In perfect competition, the firm does not set price, and an inequality does not give a unique optimal output.

Setting output such that price equals average total costs: This condition implies zero economic profit and is not the general rule for profit maximisation.

Setting price so that it is greater than marginal cost: The firm again cannot choose price; and having price greater than marginal cost suggests that increasing output could still raise profit.

Common Pitfalls:
Some learners mix up average and marginal concepts and assume that setting price equal to average total cost is the profit maximising rule. Others forget that in perfect competition, the firm cannot choose price and only chooses quantity. A useful guideline is to always start with the general rule marginal revenue equals marginal cost for profit maximisation and then specialise it for perfect competition by setting marginal revenue equal to price.

Final Answer:
In perfect competition, a firm maximises profit by setting output such that price equals marginal cost.