3.3 Revenues, Costs And Profits Flashcards
Total revenue (TR) formula
= total amount of money coming into business though sales of goods & services
Total revenue = price x quantity
Average revenue (AR) formula
AR curve is firms demand curve
Average revenue curve is the price of the good
Average revenue is the average receipt per unit
Average Revenue = Total revenue / quantity (output)
Marginal revenue (MR) formula
= extra revenue firm earns from selling 1 more unit of output
Marginal revenue = change in revenue/change in quantity(output)
MR=0, total revenue is maximised
Revenue curve for perfect competition
(diagram)
- firms in perfect competition have perfectly elastic demand curve (horizontal)
Firms are price takers- AR curve horizontal
(no price setting power so constant price so AR=MR=D)
Because of perfect info & many buyers/sellers, if firm increased prices, would lose all consumers as they would know.
TR (total revenue) curve upward sloping as prices are constant, increases at same rate so same gradient
Revenue table for perfect information
(calculations, example, to explain diagram)
SEE SAVEMYEXAMS
Prices within market same despite changes in quantity (eg. Price = 2)
Total revenue = price x quantity (2x1=2)
So total revenue increases at constant rate so marginal revenue same for each added unit (2)
Average revenue (total revenue / quantity) same for each quantity (2)
Their graph will show horizontal AR=MR=D curve at 2 & constant increasing gradient TR curve
Revenue curve for imperfect competition
(diagram)
Firms in imperfect competition have some price setting power so downward sloping AR=D curve
Law of supply & demand operate as different goods/services produced, barriers to export/import, etc. so as price level decreases, quantity increases
MR curve is twice as steep as the AR curve= trend line. Firms to sell extra units of quantity, reduce price of all
units that preceded that, MR falls at faster rate
§ Shows the perfectly elastic demand for their goods. AR= the demand curve, AR is the price of the good, and the
demand curve shows the relationship between price and quantity. Average revenue=marginal revenue=demand
TR= max when MR=0.) MR is decreasing, up until MR is 0 always MORE TOTAL REV BEING GENERATED. As MR is decreasing, rate at which TR is increasing will be slower, up until MR = 0 (NO MORE EXTRA REV TO BE GAINED. TR hits its peak. MR goes negative
Imperfect info:
Few buyers and sellers
Differentiated goods
Price makers
High barriers to entry/exit
Imperfect info
Revenue table for imperfect competition
(calculations, example, to explain graph)
SEE SAVEMYEXAMS
Average revenue & marginal revenue decrease as quantity increases = both revenue lines (MR curve & AR curve downward sloping)
Marginal revenue decreases 2x average revenue (-2 vs -1) so MR curve 2x steeper than AR curve
Total revenue curve peaks at revenue maximisation point (price = 5) where marginal revenue = 0 then marginal revenue decreases so total revenue line decreases
Total revenue = parabola curve as marginal revenue counties to decrease as quantity increases at slower rate as closer to revenue maximisation point & faster rate as quantity increases after revenue maximisation point
PED relationship with revenue (how price elasticity determines whether firms should increase or decrease prices to produce optimal amount of total revenue)
Important for firms to know whether they sell price elastic or price inelastic goods/services, can change price to produce optimal amount of total revenue
The total revenue rule states that in order to maximise revenue, firms should increase the price of products that are inelastic in demand and decrease prices on products that are elastic in demand
Price inelastic demand = firms better off increasing prices
Increase in price (P1 to P2) causes proportionally smaller decrease in quantity demanded (Q1 to Q2)
So total revenue increases (0-P1-A-Q1 to 0-P2-B-Q2)
Total revenue would decrease if price decreases
Price elastic demand = firms better off decreasing prices
Decrease in price (P1 to P2) causes proportionally larger increase in quantity demanded (Q1 to Q2)
So total revenue increases (0-P1-A-Q1 to 0-P2-B-Q2)
Total revenue would decrease if price increases
Total cost
(formula + graph)
Total cost = total fixed cost + total variable cost (cost of producing a given level of output)
Total fixed costs (TFC) stays same, unchanged by output (straight horizontal line). Eg- rents, advertising, capital goods
Total variable cost curve (TVC) influenced by diminishing marginal returns, as labour increases, productivity per worker increases so cost of labour spread over greater output (curve steep at first but gradually decreases in gradient)
But once fixed factors of production become over utilised, additional unit of labour added produces less output despite labour unit cost remaining same = increase in gradient as middle of curve (costs increase at greater rate & output increases at slower rate)
TC curve follows same shape as TVC cure as TC = TVC + TFC (and total fixed costs stays the same)
(Same starting value as at 0 output, variable costs are 0, space between TV and TVC curve = TFC
Total variable costs formula
Total variable costs = variable cost x quantity
Average (total) cost formula
Average (total) cost = total cost / quantity
Average fixed costs
(formula & graph)
Average fixed cost = total fixed cost / quantity
Average fixed costs decrease as firms quantity produced (output) increases despite total fixed costs staying the same
Average variable cost
(formula & graph)
Average variable cost = total variable cost / quantity
Average variable costs change with output
As demand increases for firm product, firm will need to increase amount of raw materials used to meet demand
Shape explained through law of diminishing marginal returns (as quantity of labour increases, total productivity increases due to specialisation so variable costs decrease. But after retain point, fixed factors of production become over utilised & labour constraints to limited space = output per worker decreases so average variable costs start to increase again
Marginal cost formula
Marginal cost = change in cost / change in quantity
Firms total variable costs increase, both its marginal cost curve and average cost curve shift upwards. When a firms total costs increase, only its average cost curve shifts upwards.
Derivation of short run cost curves from assumption of diminishing marginal productivity
In short run at least 1 factor of production fixed, but in long run all factors of production variable
Eg. difficult for firms to respond to increases in demand through expansion as large amounts of money & time required to buy land. (assumed this factor is fixed but becomes variable in long run due to time.
Law of diminishing marginal productivity occurs with an increase in quantity of variable factors in short run (eg. labour, land) as fixed variable becomes over utilised, marginal productivity decreases so total productivity eventually decreases, firm will need to expand in long run
The variable factor assumed to be labour and fixed factors = land and capital. By adding more labour initially there are productivity improvements as underutilised fixed factors are used up and specialisation gains take place - leads to an initial rise in marginal product and fall in marginal costs.
Eventually however when more workers are hired they get in the way of one another- FC s of production constraining production therefore labour productivity falls reducing marginal product not increasing marginal costs