3.4.7 - Profit Flashcards
What is profit?
The difference between total sales revenue and total cost of production.
How should people think about a loss in terms of profit?
Negative profit.
What is the single assumption made about firms?
The want to maximise profits.
What is profit maximisation?
The level of output at which total profit is the greatest.
What are the secondary objectives of firms?
Survival
Growth
Increasing market share
What does behavioural economics question within traditional economics?
Questions the assumption that consumers and entrepreneurs are completely rational decision-makers.
What is normal profit?
The minimum profit a firm must make in order to stay in busines.
What is normal profit insufficient for?
Insufficient to attract new firms into the market as there are no added profits to be made.
What is abnormal profit?
Profit over or above normal profit.
What does abnormal profit contain?
Super-normal profit
How do economists treat normal profit?
As an opportunity cost.
What happens to firms who are unable to make normal profit in the long run?
They leave the market.
Normal profit is the same in each market. T / F?
False, it varies depending on the risks facing firms within each different market.
What economic function does abnormal profit do?
Attracts new firms into the market.
What does supernormal profit do within firms?
The managers will be incentivised to make the business even more profitable.
What could be said of abnormal profits?
It acts as a ‘magnet’ for other firms to enter the market.
What does an added influx of firms mean to a market? (No / easy barriers to entry)
Market supply increases, and within competitive markets this triggers a process in which abnormal profits and prices are reduced.
What does a supernormal profit within a market mean in terms of profits? (High barriers to entry)
Profit may just reward inefficient producers leading to a form of market failure in which the ‘producer is king’ and where ‘producer sovereignty’ reigns.
What can profit be an example of?
Economic efficiency.
It suggests that a firm has eliminated unnecessary costs of production.
Where is profit not necessarily an indicator of economic efficiency?
Monopolistic markets.
What roles does profit perform in a market economy?
Creation of worker / shareholder incentives.
Influences allocation of resources.
Reward for innovation.
Reward for risk-taking.
Efficiency-indicator.
How does profit provide the creation of worker incentives?
Some firms will choose to allocate profit-related pay in an effort to increase worker motivation.
This can become counter-productive if the managers / directors receive a huge bonus and ordinary workers make far less.
What company uses worker incentives?
John Lewis and Partners.
How does profit provide the creation of shareholder incentives?
High profit generally leads to high dividends being paid out to shareholders who own companies.
How does profit lead to decisions on resource allocation?
High profits made by a firm within a market creates incentives for new producers to enter a market.
Conversely, if sub-normal profits are made by firms, then firms will exit the market.
How does profit provide a reward for innovation (and therefore risk taking)?
If entrepreneurs believe that innovation can lead to higher profits in terms of the future, then the incentive to innovate increases.
As the future is never certain, risks are always involved, but successful risk taking leads to high profits.
How does profit provide a source of business finance?
The increased profit can be reinvested into the company to fund projects such as innovation or worker incentives.
High profits also allow firms to borrow more money at better rates.
Revenue is different to profit. T / F?
True.
What is profit sharing?
Shareholders sharing in the profit of the firm.
