In general, a firms profit equals:
its total revenue- total cost
explicit cost
A cost that involves actually laying out money
implicit cost
The value of something sacrificed when no direct payment is made
accounting profit
total revenue minus total explicit cost.
-reported on income tax reports
economic profit
total revenue minus total cost, including both explicit and implicit costs
implicit cost of capital
the opportunity cost of the capital used by a business; that is, the income that could have been realized had the capital been used in the next best alternative way.
when someone earns negative economic profit it means:
one should devote resources to next best alternative
An economic profit of zero means that
the firm could not do any better using its resources in any alternative activity.
normal profit
economic profit of zero
optimal output rule
profit is maximized by producing the quantity of output at which the marginal revenue of the last unit produced is equal to its marginal cost
Profit=
TR-TC
TR=
PxQ
principle or marginal analysis
proceed until marginal benefit equals marginal cost.
marginal revenue
the additional income from selling one more unit of a good; sometimes equal to price
marginal revenue=
change in total revenue/change in quantity of output
optimal output rule
profit is maximized by producing the quantity of output at which the marginal revenue of the last unit produced is equal to its marginal cost
marginal cost curve is
swoop shaped
marginal cost is;
the difference between the total costs of selected quanties (you divide by the difference in quantities)
marginal cost curve is plotted..
halfway between one and two, and so on
marginal revenue curve is...
STRAIGHT
what produces goods or services for sale?
a firm
production function
The relationship between quantity of inputs used to make a good and the quantity of output of that good
fixed input
an input whose quantity is fixed for a period of time and cannot be varied
variable output
is an input whose quantity the firm can vary at any time.
total product curve
shows how the quantity of output depends on the quantity of the variable input, for a given quantity of the fixed input
total production curve shape...
is going up but flattening
marginal product of labor=
change in quantity of output/quantity of labor
marginal production
has diminishing roots, goes down! straight
there are diminishing returns to an input when
an increase in the quantity of that input, holding the levels of all other inputs fixed, leads to a decline in the marginal product of that input.
product curve and the marginal product curve of the remaining input will shift when...
you change the quantities of the other inputs
fixed cost
a periodic charge that does not vary with business volume (as insurance or rent or mortgage payments etc.)
variable cost
a cost that rises or falls depending on how much is produced
total cost
fixed costs plus variable costs
TC=
FC+VC
total cost curve
a graph that shows the relationship between total variable cost and the level of a firm's output
marginal cost=
change in total cost/change in quantity of output
total cost curve...
gets steeper as it goes from right to left
average total cost
total cost divided by the quantity of output
marginal cost is
the added cost of doing something one more time
as output increases...
marginal cost also increases because the marginal product of the variable input decreases.
a u-shaped average total cost curve...
falls at low levels of output and then rises at higher levels.
average fixed cost
Fixed cost divided by the quantity of output
average variable cost
variable costs divided by the quantity of output
AFC=
FC/Q
AVC=
VC/Q
average fixed costs fall as...
more output is produced because the numerator (the fixed cost) is a fixed number but the denominator (the quantity of output) increases as more is produced
the spreading effect
the larger the output, the greater the quantity of output over which fixed cost is spread, leading to lower the average fixed cost.
the diminishing returns effect
The larger the output the greater the amount of variable input required to produce additional units leading to higher average variable cost
At low levels of output, the spreading effect is
very powerful because even small increases in output cause large reductions in average fixed cost (dominates the diminishing returns effect)
Diminishing returns, however, usually grow increasingly important as
output rises (when output is large, the diminishing returns effect dominates the spreading effect, causing the average total cost curve to slope upward.)
At the bottom of the U-shaped average total cost curve,
the two effects exactly balance each other. At this point average total cost is at its minimum level, the minimum average total cost.
For a U-shaped average total cost curve,
average total cost is at its minimum level at the bottom of the U
At the minimum-cost output,
average total cost is equal to marginal cost.
At output less than the minimum-cost output,
marginal cost is less than average total cost and average total cost is falling.
And at output greater than the minimum-cost output,
marginal cost is greater than average total cost and average total cost is rising.
economists believe that marginal cost curves often slope downward as
a firm increases its production from zero up to some low level, sloping upward only at higher levels of production: (check mark or j shaped)
This initial downward slope occurs because a firm often finds that,
when it starts with only a very small number of workers, employing more workers and expanding output allows its workers to specialize in various tasks. (salsa)
all inputs are____ in the long run
variable
at high output levels, high fixed cost yields
lower average total cost (adding the new machinery initially is non-benefical; in the long run it lowers ATC)
long-run average total cost curve
shows the relationship between output and average total cost when fixed cost has been chosen to minimize average total cost for each level of output
What determines the shape of the long-run average total cost curve?
It is the influence of scale, the size of a firm's operations, on its long-run average total cost of production
Firms that experience scale effects in production find that their long-run average total cost
changes substantially depending on the quantity of output they produce.
economies of scale
factors that cause a producer's average cost per unit to fall as output rises
increasing returns to scale
An increase in a firm's scale of production leads to lower costs per unit produced
diseconomies of scale
the property whereby long-run average total cost rises as the quantity of output increases
decreasing returns to scale
when long-run average total cost increases as output increases
constant returns to scale
the property whereby long-run average total cost stays the same as the quantity of output changes
Economies of scale often arise from
the increased specialization that larger output levels allow
-a very large initial setup cost
-network externalities
diseconomies of sale typically arise...
due to problems of coordination and communication
sunk cost
a cost that has already been committed and cannot be recovered (remember cost of break pads)
system of market structure is based on two dimensions:
the number of firms in the market (one, few, or many)
whether the goods offered are identical or differentiated
Differentiated goods
are goods that are different but considered at least somewhat substitutable by consumers (think Coke versus Pepsi).
In perfect competition,
many firms each sell an identical product.
In monopoly,
a single firm sells a single, undifferentiated product.
In oligopoly
a few firms�more than one but not a large number� sell products that may be either identical or differentiated
in monopolistic competition,
many firms each sell a differentiated product
price-taking firm
A firm whose actions have no effect on the market price of the good or service it sells
price-taking consumer
a consumer whose actions have no effect on the market price of the good or service he or she buys
when competition is perfect...
every firm is a price taker
perfectly competitive market
a market in which no individual supplier has significant influence on the market price of the product
perfectly competitive industry
an industry in which producers are price-takers
market share
A company's product sales as a percentage of total sales for that industry
an industry can be perfectly competitive if...
it must contain many firms, none of whom have a large market share.
if consumers regard the products of all firms as equivalent.
standardized product
Companies look for similarities among markets to offer a standardized product whenever possible. (sometimes called commodity)
free entry and exit
when new producers can easily enter into an industry and existing producers can easily leave that industry
monopolist
a firm that is the only producer of a good that has no close substitutes
monopoly
(economics) a market in which there are many buyers but only one seller
barrier to entry
Any factor that makes it difficult for a new firm to enter a market
four types of barrier to entry:
control of a scarce resource or input, economies of scale, technological superiority, and government-created barriers.
natural monopoly
exists when economies of scale provide a large cost advantage to a single firm that produces all of an industry's output.
oligopoly
(economics) a market in which control over the supply of a commodity is in the hands of a small number of producers and each one can influence prices and affect competitors
imperfect competition
When no one firm has a monopoly, but producers nonetheless realize that they can affect market prices, an industry
concentration ratios
measure the percentage of industry sales accounted for by the "X" largest firms, for example the four-firm concentration ratio or the eight-firm concentration ratio.
Herfindahl - Hirschman Index,
or HHI, is the square of each firm's share of market sales summed over the industry. It gives a picture of the industry market structure
3 conditions of monopolistic competition
a large number of competing firms,
differentiated products, and
free entry into and exit from the industry in the long run.
production function shows
The relationship between inputs and output
net-gain
MR-MC
price-taking firms ultimate output rule
says that a price-taking firm's profit is maximized by producing the quantity of output at which the market price is equal to the marginal cost of the last unit produced.
whenever a firm is a price-taker, its marginal revenue curve is a
horizontal line at the market price: it can sell as much as it likes at the market price
TR > TC
firm is profitable
TR = TC
firm breaks even
TR < TC,
firm incurs loss
profit/Q=
TR/Q-TC/Q
P > ATC
firm is profitable
P=ATC
firm breaks even
P<ATC
firm incurs loss
in the short run a firm will maximize profit by producing the quantity of output at which
MC=R
ATC=MC
break even
Profit=
TR ? TC
Profit=
P-ATC
if break even price is higher than market price..
theres a loss and its measured by the rectangle shaded below it
break even price
the market price at which it earns zero profits.
Whenever the market price exceeds the minimum average total cost
producer is profitable
Whenever the market price equals the minimum average total cost,
producer breaks even
Whenever the market price is less than the minimum average total cost,
producer unprofitable
A firm will cease production in the short run if the market price falls below the ______ _____, which is equal to minimum average variable cost.
shut down price
the short run individual supply curve shows
how an individual firm's profit-maximizing level of output depends on the market price, taking fixed cost as given.
short run market equilibrium
when the quantity supplied equals the quantity demanded, taking the number of producers as given.
MR=MC at
monopolist's profit-maximizing quantity of output