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Residual Claimants
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Residual claimants gain if the firm's costs are reduced or revenues increase. Right to any revenue after costs have been paid. Strong incentive for owners to keep costs of producing output low
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Proprietorship
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A business owned by one person. make up 72% of firms but only 4% of total business revenue
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Partnership
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A business owned and controlled by two or more people. 10% of firms and 14% of business revenues
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Corporation
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A business owned by stockholders who share in its profits but are not personally responsible for its debts. 18% of firms but control 82% of business revenue
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explicit costs
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Input costs that require an outlay of money by the firm. Result when a monetary payment is made.
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Implicit costs
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Involve resources owned by the firm that do not involve monetary payment. ex. time put in by owner to run the firm.
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Total cost
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explicit + implicit
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Economic Profit
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total revenues minus total costs. occurs only when rate of return is above the normal market rate of return. Firms that earn 0 economic profit are making exactly market rate of return.
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Accounting profit
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Total revenue minus expenses of the firm over a time period (explicit costs). Usually greater than economic profit. often includes implicit costs such as the opportunity cost of equity capital
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short run
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period of time so short that the firms level of plant and heavy equipment is fixed. In short run, output can only be altered by changing the usage of variable resources such as labor and raw materials
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long run
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period of time sufficient for the firm to alter all factors of production. firms can freely enter and exit the industry
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Total Fixed Costs
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Costs that remain unchanged in the short run when output is altered. insurance premiums, property taxes, opportunity cost of fixed assets. Line on graph is perfectly horizontal
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Average Fixed Costs
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total fixed costs divided by quantity produced. Fixed costs per unit. decline as output expands. high for small rate of output. larger output will make arc decline.
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Total Variable Cost
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sum of costs that increase as output expands. ex. cost of labor. raw materials
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Average Variable Costs
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Variable costs per unit. TVC/output
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Total Costs
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Total Fixed Cost + Total Variable Cost
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Average Total Costs
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Average Fixed Cost + Average Variable Cost. U shaped curve since AFC will be high for small rates of output and MC will be high as the plant's production capacity is approached.
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Marginal Cost
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Increase in Total Cost associated with one-unit increase in production.
Typically, will decline initially, reach a minimum, and then rise. Rise sharply as the plant's production capacity (q) is approached.
Typically, will decline initially, reach a minimum, and then rise. Rise sharply as the plant's production capacity (q) is approached.
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Law of Diminishing returns
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as more units of a variable resource are applied to a fixed resource, output will eventually increase by a smaller and smaller amount. when firm has diminishing returns marginal costs (MC) will rise with output. As MC continues to rise it will eventually exceed average total cost (ATC) and will cause ATC to rise. before that occurs MC is below ATC and causes ATC to decline
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Marginal Product
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change in total product due to a one unit increase in the variable input
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Economies of Scale
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Reductions in per unit costs as output expands. This occurs from three reasons. Mass production. Specialization, Improvements in production as a result of experience.
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Constant Returns to Scale
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unit costs are constant as output expands
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Diseconomies of Scale
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increases in per unit costs as output expands
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Cost Curve Shifters
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Prices of resources, taxes, regulations, technology
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Price Taker
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produce identical products. ex wheat corn soybeans and because the firms are small relative to market each must take price established in market. purely competitive market.
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price-searcher
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firms produce products that differ and therefore they can alter price. Amount that the price-searcher firm is able to sell is inversely related to the price it charges. Most real world firms are price searchers. monopoly, monopolistic competition. downward sloping demand curve. they can alter price without losing sales
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Marginal Revenue (price taker)
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change in total revenue divided by change in output. In price-taker market, marginal revenue will be equal to market price, because all units are sold at the same price (market price). when meets marginal cost it maximizes profit of firm.
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shutdown
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short run when price falls below average variable cost (p2)
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exit
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long run when price is less than ATC
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supply curve short run
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supply curve =MC
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economic profit entry
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price exceeds ATC firms will earn an economic profit. economic profit induces entry of new firms and expansion in the scale of operation of existing firm. 6 steps to long run profit: long run, firms enter market, increase market supply, decrease market price, push price so firms can charge down, all firms make 0 economic profit
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economic losses and exit
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ATC exceeds price, firms will suffer an economic loss. Economic losses induce exit of firms from market and reduction in scale of operation of the remaining firms. 6 steps to long run: long run, firms exit market, decrease market supply, increase market price, push price so firms can charge up, all firms make 0 economic profit
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profit
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reward for production of a product that has greater value than the value of the resources required for its production
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losses
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penalty for the production of a good that consumers value less highly than the value of the resource required for its production
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monopolistic competition
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competitive price searcher markets with no limits or barriers to entry. downward sloping demand curve. firms are free to set price but face strong competitive pressure. competition exists from existing firms and potential rivals.
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price searcher short run profit
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maximizes profit where MR=MC at output level q. go up from where MR meets MC and then make a dot at ATC that equals the cost and then another dot at demand which is price. when price exceeds cost you have economic profit. P-C x Q equals economic profit
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price searcher long run
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if firms are making economic profit then rival firms will be attracted to the market. entry of new firms will expand supply and lower price. demand curve of each will become a smaller part of the whole. pivoting to become more elastic and shifting inward until economic profits are eliminated.
Economic losses will cause firms to leave the market. demand for firms will become larger part making it less elastic until losses have been eliminated removing incentive to exit the market. Competitive price searchers can make either profit or losses in short run but only zero economic profit in the long run.
Economic losses will cause firms to leave the market. demand for firms will become larger part making it less elastic until losses have been eliminated removing incentive to exit the market. Competitive price searchers can make either profit or losses in short run but only zero economic profit in the long run.
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Contestable market
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A market in which entry is easy and exit is costless, new firms can produce the product at the same cost as current firms, and exiting firms can easily dispose of their fixed assets by selling them.
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zero economic profit
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P=ATC
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Entrepreneur
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A person who organizes, manages, and takes on the risks of a business. strong incentive to discover the tip of business structure, size of firm, and scope of operation that can best keep the per-unit cost of products or services low. introduce lower cost and new products with high value relative to cost which promotes economic progress.
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Price Discrimination
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seller charges different consumers different prices for the same good or service. only occurs when a price searcher is able to: identify groups of customers with different price elasticities of demand. Facilitate trade with the different groups at different prices. Prevent customers from re-trading the product. Sellers may gain from price discrimination by charging: 1. higher prices to groups of customers with more inelastic demand and 2. lower prices to groups of customers with more elastic demand.
price discrimination leads to more output and additional gains from trade.
price discrimination leads to more output and additional gains from trade.
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limits to entry
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things that make it hard, but not impossible, to enter a market. Government licensure
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barriers to entry
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Conditions that keep new businesses either from entering an industry or succeeding in that industry. ex. Natural monopoly (specific kind of economies of scale), express government regulation, patents, control over an essential resource. (uncommon resource)
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Monopoly
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market with high entry barriers, a single seller of a well defined product for which there are no good substitutes. Only a few markets exist with a single seller. ex cable television and local phone service. (Bright-house only provider for hillsborough county)
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Natural Monopoly
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long-run Average Total Costs continue to decline as firm size increases over the entire range of market demand. with natural monopoly the larger firm always has a lower per unit cost thus a single firm will dominate the market. cable television, local electric power and water distribution
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Price and Output under Monopoly
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monopoly will reduce price and expand output as long as MR>MC. in contrast, they'll raise price and reduce output when MR<MC. When P>C or ATC, the firm makes economic profit.
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