3.3 - Revenue, costs and profits Content Flashcards
3.3 - Revenues, costs and profits
At what point does MR begin to decrease?
When TR = 0.
3.3 - Revenues, costs and profits
Total revenue when price is constant?
3.3 - Revenues, costs and profits
Average and marginal revenue when price is constant?
3.3 - Revenues, costs and profits
Total revenue when price is falling
PED = 1 when TR is maximised and MR = 0
3.3 - Revenues, costs and profits
Average and marginal revenue when price is falling
- AR falls as price falls with increases in output
- MR falls twice as fast
- AR = D as it shows the average price received at each level of output
3.3 - Revenues, costs and profits
Give examples of fixed costs and variable costs.
- Fixed cost: printer
- Variable costs: ink + paper
3.3 - Revenues, costs and profits
Diagram showing the relationship between TC, TVC and TFC:
3.3 - Revenues, costs and profits
Why are Long run and short run cost curves shaped they way they are
SR - due to law of diminishing returns.
LR - due to EoS.
3.3 - Revenues, costs and profits
What happens to the AC and MC curve if costs decrease?
They always move as a pair.
AC shifts down, MC shifts out (to the right).
3.3 - Revenues, costs and profits
What is the minimum efficient scale?
The lowest quantity where AC stops decreasing. (Where all EoS have been utilised).
(Productive efficiency).
3.3 - Revenues, costs and profits
What are diseconomies of scale?
- Disadvantages that arise in large businesses that reduce efficiency and cause average costs to rise.
- Decreasing returns to scale - Δ% in output < Δ% in inputs
3.3 - Revenues, costs and profits
What are economies of scale
- Falling long run average cost as output increases in the long run
- Increasing returns to scale - Δ% in output > Δ% in inputs
3.3 - Revenues, costs and profits
What are constant returns to scale?
When a firm increases inputs and receives an increase in output by same percentage
3.3 - Revenues, costs and profits
What are external economies of scale?
Advantages which arise from the growth of the industry within which the firm operates, independent of the firm itself.
3.3 - Revenues, costs and profits
Types of interal economies of scale
- Technical - Gains productivity/efficiency from scaling up long-run production - specialisation, containerisation, learning by doing
- Marketing - A large firm can purchase factor inputs in bulk at lower prices if it has monopsony power
- Managerial - Division of labour where firms employ specialists –lower ac as productivity
- Financial - Larger, more established firms to be more credit worthy – better access to loans with more favorable rate
- Risk-bearing - Spreading the risk of failure by increasing number of products i.e. product diversification – which lowers failure and so lowers AC
- Networking - The marginal cost of adding one more user or customer to a network is close to zero - The long run cost-per-user diminishes
- Labour - Successful businesses in same areas find labour comes to that area - reduces cost and time taken. Staff from other businesses
3.3 - Revenues, costs and profits
Potential benefits to consumers from businesses utilizing economies of scale
- Lower prices leading to higher real incomes and increased consumer surplus
- Producer surplus has value – reinvested in capital spending and research & development
- Consumers as employees – higher real wages and profit shares
- Consumer benefits from network externalities
3.3 - Revenues, costs and profits
Evaluation of consumer benefits from economies of scale
- It is possible to question the extent to which EoS leads to lower prices – EoS can also reinforce market (monopoly power allowing dominant firms to raise prices to consumers perhaps using algorithms. Creates social costs
- Price is not the main metric for measuring consumer welfare – service quality and pace of innovation are also very important
3.3 - Revenues, costs and profits
Significance of economies of scale for firms
- Price competitiveness improving from cutting unit costs
- The extent of the economies of scale varies due to the minimum efficient scale compared to the size of the market
- Increased profits
- Good for share price
- Retained profits
- Less vulnerable to a hostile takeover bid
3.3 - Revenues, costs and profits
Diseconomies of scale - why do average costs rise
- Managerial Diseconomies: As firms become very large, the management structure can become overly complex and less efficient. Communication breakdowns and bureaucracy may increase, leading to higher costs.
- Coordination and Control Problems: Larger firms often struggle to maintain effective control and coordination among various departments and divisions, leading to inefficiencies and higher costs.
- Worker Alienation: In very large organizations, employees may feel disconnected from the company’s goals and values, which can result in lower productivity and higher turnover rates.
- Communication Challenges: With an increase in size, communication becomes more challenging, leading to misunderstandings and errors that can increase costs.
3.3 - Revenues, costs and profits
When can firms making subnormal profits survive?
- In the SR - cross subsidise
- In the LR, cannot survive - firm will leave market reducing supply + increasing price
3.3 - Revenues, costs and profits
What is the shut-down condition for firms? Represent this on a diagram:
Where AR = AVC.
3.3 - Revenues, costs and profits
What is supernormal profit, where does it occur and what does the graph look like
The profit above normal profit
Occurs when AR>AC
3.3 - Revenues, costs and profits
What is subnormal profit, where does it occur and what does the graph look like
Is a loss - not sustainable - will lead to firm shutting down in the long run
Occurs when AC>AR
3.3 - Revenues, costs and profits
What is normal profit, where does it occur and what does the graph look like
Normal profit is the minimum level of profit required to keep a firm in the industry. It is the profit that covers all explicit and implicit costs of production but provides no extra income above those costs
AR=AC
