3.1.8 - Profits and Losses Flashcards
What is Profit?
Profit is the difference between total revenue and total cost.
Where does Profit Maximization occur?
When Marginal Cost = Marginal Revenue (MC=MR)
This makes is so that each extra unit produced gives no extra loss or revenue.
What is Normal Profit?
The minimum reward required to keep entrepreneurs supplying their enterprise.
It covers the OC of investing funds into the firm and not investing them elsewhere
Where does Normal Profit occur?
When Total Revenue = Total Costs (TR=TC)
When Profit = 0
Why is normal profit (a profit of 0) enough to keep a firm in an industry?
The return required to keep the entrepreneur supplying their enterprise is included in the costs of production.
Therefore, making zero profit (meeting all the costs) will just be enough to keep the firm in the industry.
What is Supernormal Profit?
Profit above normal profit
(exceeds the value of the OC of investing funds into the firm).
Where does Supernormal profit occur?
When TR > TC
When does a firm make a loss?
- When they fail to cover their total costs.
- i.e. profit becomes negative
When will a profit maximising firm operate in the short-run?
P > AVC
True or False. Are variable costs paid by a firm when they shut down?
False. When Shutting down, no variable costs are incurred by the firm.
Must firms pay fixed costs regardless of whether they shut down or continue to produce?
Yes. Therefore, they are not considered when a decision to shut down is being made.
Will a firm shut down in the short-run if they can cover their AVCs but not their Fixed Costs?
No. They can still contribute towards paying off the fixed costs and the loss the firm makes will be less than if they shut down.
If a firm has:
TC - £1000
FC - £300
VC - £700
R - £800
What loss does the firm make if they choose to continue to operate vs. if they were to shut down and produce nothing?
Continue to Operate:
£100 (Revenue after covering VC) - £300 (FC) = -£200
Shut Down:
£0 (as the firm has chosen not to produce) - £300 (FC) = -£300
As demonstrated, the firm makes a smaller loss if it continues to operate, as whilst loss making, it is still able to contribute towards its fixed costs.
Where is the shut-down point in the Short-Run?
P < AVC
When Variable Costs cannot be covered
