Profit Maximization and Cost Minimization ● Average and Marginal Costs
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Microeconomics Exam Review Chapters 8 Through 12, 16, 17 and 19
MICROECONOMICS EXAM REVIEW CHAPTERS 8 THROUGH 12, 16, 17 AND 19 Key Terms and Concepts to Know CHAPTER 8 - PERFECT COMPETITION I. An Introduction to Perfect Competition A. Perfectly Competitive Market Structure: • Has many buyers and sellers. • Sells a commodity or standardized product. • Has buyers and sellers who are fully informed. • Has firms and resources that are freely mobile. • Perfectly competitive firm is a price taker; one firm has no control over price. B. Demand Under Perfect Competition: Horizontal line at the market price II. Short-Run Profit Maximization A. Total Revenue Minus Total Cost: The firm maximizes economic profit by finding the quantity at which total revenue exceeds total cost by the greatest amount. B. Marginal Revenue Equals Marginal Cost in Equilibrium • Marginal Revenue: The change in total revenue from selling another unit of output: • MR = ΔTR/Δq • In perfect competition, marginal revenue equals market price. • Market price = Marginal revenue = Average revenue • The firm increases output as long as marginal revenue exceeds marginal cost. • Golden rule of profit maximization. The firm maximizes profit by producing where marginal cost equals marginal revenue. C. Economic Profit in Short-Run: Because the marginal revenue curve is horizontal at the market price, it is also the firm’s demand curve. The firm can sell any quantity at this price. III. Minimizing Short-Run Losses The short run is defined as a period too short to allow existing firms to leave the industry. The following is a summary of short-run behavior: A. Fixed Costs and Minimizing Losses: If a firm shuts down, it must still pay fixed costs. -
Perfect Competition--A Model of Markets
Econ Dept, UMR Presents PerfectPerfect CompetitionCompetition----AA ModelModel ofof MarketsMarkets StarringStarring uTheThe PerfectlyPerfectly CompetitiveCompetitive FirmFirm uProfitProfit MaximizingMaximizing DecisionsDecisions \InIn thethe ShortShort RunRun \InIn thethe LongLong RunRun FeaturingFeaturing uAn Overview of Market Structures uThe Assumptions of the Perfectly Competitive Model uThe Marginal Cost = Marginal Revenue Rule uMarginal Cost and Short Run Supply uSocial Surplus PartPart III:III: ProfitProfit MaximizationMaximization inin thethe LongLong RunRun u First, we review profits and losses in the short run u Second, we look at the implications of the freedom of entry and exit assumption u Third, we look at the long run supply curve OutputOutput DecisionsDecisions Question:Question: HowHow cancan wewe useuse whatwhat wewe knowknow aboutabout productionproduction technology,technology, costs,costs, andand competitivecompetitive marketsmarkets toto makemake outputoutput decisionsdecisions inin thethe longlong run?run? Reminders...Reminders... u Firms operate in perfectly competitive output and input markets u In perfectly competitive industries, prices are determined in the market and firms are price takers u The demand curve for the firm’s product is perceived to be perfectly elastic u And, critical for the long run, there is freedom of entry and exit u However, technology is assumed to be fixed The firm maximizes profits, or minimizes losses by producing where MR = MC, or by shutting down Market Firm P P MC S $5 $5 P=MR D -
Labor Demand: First Lecture
Labor Market Equilibrium: Fourth Lecture LABOR ECONOMICS (ECON 385) BEN VAN KAMMEN, PHD Extension: the minimum wage revisited •Here we reexamine the effect of the minimum wage in a non-competitive market. Specifically the effect is different if the market is characterized by a monopsony—a single buyer of a good. •Consider the supply curve for a labor market as before. Also consider the downward-sloping VMPL curve that represents the labor demand of a single firm. • But now instead of multiple competitive employers, this market has only a single firm that employs workers. • The effect of this on labor demand for the monopsony firm is that wage is not a constant value set exogenously by the competitive market. The wage now depends directly (and positively) on the amount of labor employed by this firm. , = , where ( ) is the market supply curve facing the monopsonist. Π ∗ − ∗ − Monopsony hiring • And now when the monopsonist considers how much labor to supply, it has to choose a wage that will attract the marginal worker. This wage is determined by the supply curve. • The usual profit maximization condition—with a linear supply curve, for simplicity—yields: = + = 0 Π where the last term in parentheses is the slope ∗ of the −labor supply curve. When it is linear, the slope is constant (b), and the entire set of parentheses contains the marginal cost of hiring labor. The condition, as usual implies that the employer sets marginal benefit ( ) equal to marginal cost; the only difference is that marginal cost is not constant now. Monopsony hiring (continued) •Specifically the marginal cost is a curve lying above the labor supply with twice the slope of the supply curve. -
Perfect Competition
Perfect Competition 1 Outline • Competition – Short run – Implications for firms – Implication for supply curves • Perfect competition – Long run – Implications for firms – Implication for supply curves • Broader implications – Implications for tax policy. – Implication for R&D 2 Competition vs Perfect Competition • Competition – Each firm takes price as given. • As we saw => Price equals marginal cost • PftPerfect competition – Each firm takes price as given. – PfitProfits are zero – As we will see • P=MC=Min(Average Cost) • Production efficiency is maximized • Supply is flat 3 Competitive industries • One way to think about this is market share • Any industry where the largest firm produces less than 1% of output is going to be competitive • Agriculture? – For sure • Services? – Restaurants? • What about local consumers and local suppliers • manufacturing – Most often not so. 4 Competition • Here only assume that each firm takes price as given. – It want to maximize profits • Two decisions. • ()(1) if it produces how much • П(q) =pq‐C(q) => p‐C’(q)=0 • (2) should it produce at all • П(q*)>0 produce, if П(q*)<0 shut down 5 Competitive equilibrium • Given n, firms each with cost C(q) and D(p) it is a pair (p*,q*) such that • 1. D(p *) =n q* • 2. MC(q*) =p * • 3. П(p *,q*)>0 1. Says demand equals suppl y, 2. firm maximize profits, 3. profits are non negative. If we fix the number of firms. This may not exist. 6 Step 1 Max П p Marginal Cost Average Costs Profits Short Run Average Cost Or Average Variable Cost Costs q 7 Step 1 Max П, p Marginal -
Quantifying the External Costs of Vehicle Use: Evidence from America’S Top Selling Light-Duty Models
QUANTIFYING THE EXTERNAL COSTS OF VEHICLE USE: EVIDENCE FROM AMERICA’S TOP SELLING LIGHT-DUTY MODELS Jason D. Lemp Graduate Student Researcher The University of Texas at Austin 6.9 E. Cockrell Jr. Hall, Austin, TX 78712-1076 [email protected] Kara M. Kockelman Associate Professor and William J. Murray Jr. Fellow Department of Civil, Architectural and Environmental Engineering The University of Texas at Austin 6.9 E. Cockrell Jr. Hall, Austin, TX 78712-1076 [email protected] The following paper is a pre-print and the final publication can be found in Transportation Research 13D (8):491-504, 2008. Presented at the 87th Annual Meeting of the Transportation Research Board, January 2008 ABSTRACT Vehicle externality costs include emissions of greenhouse and other gases (affecting global warming and human health), crash costs (imposed on crash partners), roadway congestion, and space consumption, among others. These five sources of external costs by vehicle make and model were estimated for the top-selling passenger cars and light-duty trucks in the U.S. Among these external costs, those associated with crashes and congestion are estimated to be the most practically significant. When crash costs are included, the worst offenders (in terms of highest external costs) were found to be pickups. If crash costs are removed from the comparisons, the worst offenders tend to be four pickups and a very large SUV: the Ford F-350 and F-250, Chevrolet Silverado 3500, Dodge Ram 3500, and Hummer H2, respectively. Regardless of how the costs are estimated, they are considerable in magnitude, and nearly on par with vehicle purchase prices. -
Monopoly Monopoly Causes of Monopolies Profit Maximization
Monopoly • market with a single seller • Firm demand = market demand Monopoly • Firm demand is downward sloping • Monopolist can alter market price by adjusting its ECON 370: Microeconomic Theory own output level Summer 2004 – Rice University Stanley Gilbert Econ 370 - Monopoly 2 Causes of Monopolies Profit Maximization •Created by law ⇒ US Postal Service • We assume profit maximization • a patent ⇒ a new drug • Earlier we noted – profit maximization • sole ownership of a resource ⇒ a toll highway ⇒ – Marginal Revenue = Marginal Cost • formation of a cartel ⇒ OPEC • With monopolies, that is the relevant test • large economies of scale ⇒ local utility company (natural monopoly) Econ 370 - Monopoly 3 Econ 370 - Monopoly 4 1 Mathematically Significance dp(y) dc(y) p()y + y = π ()y = p ()y y − c ()y dy dy At profit-maximizing output y*: • Since demand is downward sloping: dp/dy < 0 – So a monopoly supplies less than a competitive market dπ ()y d dc(y) would = ()p()y y − = 0 – At a higher price dy dy dy • MR < Price because to sell the next unit of output it has to lower its price on all its product dp()y dc(y) p()y + y = – Not just on the last unit dy dy – Thus further reducing revenue Econ 370 - Monopoly 5 Econ 370 - Monopoly 6 Linear Demand Linear Demand Graph • If demand is q(p) = f – gp • Then the inverse demand function is p – p = f / g – q / g –Let a = f / g, and a –Let b = 1 / g – Then p = a – bq p(y) = a – by • Since output y = demand q, the revenue function is – p(y)·y = (a – by)y = ay – by2 y • Marginal Revenue is a / 2b a / b –MR -
Product Differentiation and Economic Progress
THE QUARTERLY JOURNAL OF AUSTRIAN ECONOMICS 12, NO. 1 (2009): 17–35 PRODUCT DIFFERENTIATION AND ECONOMIC PROGRESS RANDALL G. HOLCOMBE ABSTRACT: In neoclassical theory, product differentiation provides consumers with a variety of different products within a particular industry, rather than a homogeneous product that characterizes purely competitive markets. The welfare-enhancing benefit of product differentiation is the greater variety of products available to consumers, which comes at the cost of a higher average total cost of production. In reality, firms do not differentiate their products to make them different, or to give consumers variety, but to make them better, so consumers would rather buy that firm’s product rather than the product of a competitor. When product differentiation is seen as a strategy to improve products rather than just to make them different, product differentiation emerges as the engine of economic progress. In contrast to the neoclassical framework, where product differentiation imposes a cost on the economy in exchange for more product variety, in real- ity product differentiation lowers costs, creates better products for consumers, and generates economic progress. n the neoclassical theory of the firm, product differentiation enhances consumer welfare by offering consumers greater variety, Ibut that benefit is offset by the higher average cost of production for monopolistically competitive firms. In the neoclassical framework, the only benefit of product differentiation is the greater variety of prod- ucts available, but the reason firms differentiate their products is not just to make them different from the products of other firms, but to make them better. By improving product quality and bringing new Randall G. -
A Primer on Profit Maximization
Central Washington University ScholarWorks@CWU All Faculty Scholarship for the College of Business College of Business Fall 2011 A Primer on Profit aM ximization Robert Carbaugh Central Washington University, [email protected] Tyler Prante Los Angeles Valley College Follow this and additional works at: http://digitalcommons.cwu.edu/cobfac Part of the Economic Theory Commons, and the Higher Education Commons Recommended Citation Carbaugh, Robert and Tyler Prante. (2011). A primer on profit am ximization. Journal for Economic Educators, 11(2), 34-45. This Article is brought to you for free and open access by the College of Business at ScholarWorks@CWU. It has been accepted for inclusion in All Faculty Scholarship for the College of Business by an authorized administrator of ScholarWorks@CWU. 34 JOURNAL FOR ECONOMIC EDUCATORS, 11(2), FALL 2011 A PRIMER ON PROFIT MAXIMIZATION Robert Carbaugh1 and Tyler Prante2 Abstract Although textbooks in intermediate microeconomics and managerial economics discuss the first- order condition for profit maximization (marginal revenue equals marginal cost) for pure competition and monopoly, they tend to ignore the second-order condition (marginal cost cuts marginal revenue from below). Mathematical economics textbooks also tend to provide only tangential treatment of the necessary and sufficient conditions for profit maximization. This paper fills the void in the textbook literature by combining mathematical and graphical analysis to more fully explain the profit maximizing hypothesis under a variety of market structures and cost conditions. It is intended to be a useful primer for all students taking intermediate level courses in microeconomics, managerial economics, and mathematical economics. It also will be helpful for students in Master’s and Ph.D. -
Marginal Social Cost Pricing on a Transportation Network
December 2007 RFF DP 07-52 Marginal Social Cost Pricing on a Transportation Network A Comparison of Second-Best Policies Elena Safirova, Sébastien Houde, and Winston Harrington 1616 P St. NW Washington, DC 20036 202-328-5000 www.rff.org DISCUSSION PAPER Marginal Social Cost Pricing on a Transportation Network: A Comparison of Second-Best Policies Elena Safirova, Sébastien Houde, and Winston Harrington Abstract In this paper we evaluate and compare long-run economic effects of six road-pricing schemes aimed at internalizing social costs of transportation. In order to conduct this analysis, we employ a spatially disaggregated general equilibrium model of a regional economy that incorporates decisions of residents, firms, and developers, integrated with a spatially-disaggregated strategic transportation planning model that features mode, time period, and route choice. The model is calibrated to the greater Washington, DC metropolitan area. We compare two social cost functions: one restricted to congestion alone and another that accounts for other external effects of transportation. We find that when the ultimate policy goal is a reduction in the complete set of motor vehicle externalities, cordon-like policies and variable-toll policies lose some attractiveness compared to policies based primarily on mileage. We also find that full social cost pricing requires very high toll levels and therefore is bound to be controversial. Key Words: traffic congestion, social cost pricing, land use, welfare analysis, road pricing, general equilibrium, simulation, Washington DC JEL Classification Numbers: Q53, Q54, R13, R41, R48 © 2007 Resources for the Future. All rights reserved. No portion of this paper may be reproduced without permission of the authors. -
Lecture 16: Profit Maximization and Long-Run Competition
Lecture 16: Profit Maximization and Long-Run Competition Session ID: DDEE EC101 DD & EE / Manove Profits and Long Run Competition p 1 EC101 DD & EE / Manove Clicker Question p 2 Cost, Revenue and Profits Total Cost (TC): TC = FC + VC Average Cost (AC): AC = TC / Q Sometimes called Average Total Cost (ATC) Profits: = Total Revenue − Total Cost = (P x Q) − TC = (P x Q) − AC x Q = (P − AC) Q Producer surplus is the same as profits before fixed costs are deducted. =(P x Q) − VC − FC =PS− FC EC101 DD & EE / Manove Producer Costs>Cost Concepts p 3 A Small Firm in a Competitive Market The equilibrium price P* is determined by the entire market. If all of the other firms charge P* and produce total output Q0, then … Market Last Small Firm P S P D P* P* Q* = Q0 + QF D Q Q Q Q0 0 QF for the last small firm, the remaining demand near the market price seems very large and very elastic. The last firm’s supply determines its own equilibrium quantity: it will also charge the market price (and be a price-taker). EC101 DD & EE / Manove Perfect Competition>Small Firm p 4 Supply Shifts in a Competitive Market Suppose Farmer Jones discovers that hip-hop music increases his hens’ output of eggs. Then his supply curve would shift to the right. But his price wouldn’t change. EC101 DD & EE / Manove Perfect Competition>Small Firm>Supply Shift p 5 How does the shift of his supply curve affect Farmer Jones? P P S S S’ P* D D Q Q Market Farmer Jones Farmer Jones’ supply shifts to the right, but his equilibrium price remains the same. -
Health Economic Evaluation a Shiell, C Donaldson, C Mitton, G Currie
85 GLOSSARY Health economic evaluation A Shiell, C Donaldson, C Mitton, G Currie ............................................................................................................................. J Epidemiol Community Health 2002;56:85–88 A glossary is presented on terms of health economic analyses the costs and benefits of evaluation. Definitions are suggested for the more improving patterns of resource allocation.”7 common concepts and terms. Health economics: one role of health economics is to .......................................................................... provide a set of analytical techniques to assist decision making, usually in the health care sector, t is well established that economics has an to promote efficiency and equity. Another role, how- important part to play in the evaluation of ever, is simply to provide a way of thinking about Ihealth and health care interventions. Many health and health care resource use; introducing a books and papers have been written describing thought process that recognises scarcity, the need the methods of health economic evaluation.12 to make choices and, thus, that more is not always Despite this, controversies remain about issues better if other things can be done with the same such as the definition, purposes and limitations of resources. Ultimately, health economics is about the different evaluative techniques, whether or maximising social benefits obtained from con- not to discount future health benefits, and the strained health producing resources. usefulness of “league tables” that rank health interventions according to their cost per unit of effectiveness.3–5 ECONOMIC EVALUATION CRITERIA To help steer potential users of economic Technical efficiency: with technical efficiency, an evidence through some of these issues, we seek objective such as the provision of tonsillectomy here to define the more common economic for children in need of this procedure is taken as concepts and terms. -
Internal Increasing Returns to Scale and Economic Growth
NBER TECHNICAL WORKING PAPER SERIES INTERNAL INCREASING RETURNS TO SCALE AND ECONOMIC GROWTH John A. List Haiwen Zhou Technical Working Paper 336 http://www.nber.org/papers/t0336 NATIONAL BUREAU OF ECONOMIC RESEARCH 1050 Massachusetts Avenue Cambridge, MA 02138 March 2007 The views expressed herein are those of the author(s) and do not necessarily reflect the views of the National Bureau of Economic Research. © 2007 by John A. List and Haiwen Zhou. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including © notice, is given to the source. Internal Increasing Returns to Scale and Economic Growth John A. List and Haiwen Zhou NBER Technical Working Paper No. 336 March 2007 JEL No. E10,E22,O41 ABSTRACT This study develops a model of endogenous growth based on increasing returns due to firms? technology choices. Particular attention is paid to the implications of these choices, combined with the substitution of capital for labor, on economic growth in a general equilibrium model in which the R&D sector produces machines to be used for the sector producing final goods. We show that incorporating oligopolistic competition in the sector producing finals goods into a general equilibrium model with endogenous technology choice is tractable, and we explore the equilibrium path analytically. The model illustrates a novel manner in which sustained per capita growth of consumption can be achieved?through continuous adoption of new technologies featuring the substitution between capital and labor. Further insights of the model are that during the growth process, the size of firms producing final goods increases over time, the real interest rate is constant, and the real wage rate increases over time.