Chapter 6 Flashcards
How businesses are organized affects who makes decisions and the firms objective, such as whether it tries to maximize profit
Ownership and Management of Firms
An organization that converts inputs, such as labor, materials, energy, and capital, into outputs, the goods and services that it sells
Firm
Consists of firms owned by individual or other non governmental entities whose owners try to earn a profit
Private Sector
aka
For-Profit Private Sector
This sector contributes the most to the GDP (gross domestic product - a measure of the country’s total output)
Private Sector
aka
For-Profit Private Sector
Consists of firms and organizations that are owned by government or government agencies
Public Sector
Consists of organizations that are neither government owned nor intended to earn a profit
Non Profit Sector
aka
Not-For-Profit Sector
What are the three legal forms of organization for firms in the private sector?
- Sole Proprietorship
- General Partnership
- Corporation
Firms owned by a single individual
Sole Proprietorship
Businesses jointly owned and controlled by two or more people operating under a partnership agreement
Partnerships
Condition whereby the personal assets of the owners of the corporation cannot be taken to pay a corporations debts of it goes into bankruptcy
Limited Liability
In this organization, the most shareholders can lose is the amount they paid for their stock
Limited Liability
The purpose of this organization is to allow firms to raise funds and grow beyond what was possible when owners risked personal assets on any firm in which they invested
Limited Liability
The difference between what it earns from selling a good and what it pays for labor, materials, and other inputs
Profit
Profit= R-C R= price*quantity
The current level of output cannot be produced with fewer inputs, given existing knowledge about technology and the organization of production
Efficient Production
If given the quantity of inputs used, no more output could be produced using existing knowledge
Efficient Production
A necessary condition for profit maximization but it alone is not a sufficient condition to ensure that a firms profit is maximized
Efficient Production
Summarizes how a firm converts inputs into outputs using one of the available technologies
Production Function
Units of Output=
q=f(L,K)
The relationship between the quantities of inputs used and the maximum quantity of output that can be produced, given current knowledge about technology and organizations
Production Function
Has constant returns to scaled if, when the firm doubles it’s input, it’s output also doubles
f(2K,2L)=2f(L,K)=2q
Production Process
Long-lived inputs such as land, buildings (factories, stores), and equipment (machines, trucks)
Capital (K)
Human services such as those provided by managers, skilled workers (architects, economists, engineers, plumbers), and less skilled workers (custodians, constructions laborers, assembly-line workers)
Labor (L)
Raw goods (oil, water, wheat) and processed products (aluminum, plastic, paper, steel)
Materials (M)
Shows only the maximum amount of output because it includes only efficient production processes
Production Function
A period of time so brief that at least one factor of production cannot be varied practically
Short Run
A factor of production that cannot be varied practically in the short run
Fixed Input
A factor of production whose quantity can be changed readily by the firm during the relevant time period
Variable Input
A lengthy enough period of time that all inputs can be varied
Long Run
All factors of production are variable inputs in the
Long Run
What has greater flexibility? The long run or the short run?
Long Run
Only some inputs can be varied so the firm changes its output by adjusting its variable inputs
Short-Run Production
q=f(L,K)
K has bar over it because it has a fixed number of units of capital
Output
Total Product
The change in total output, /\ q, resulting from using an extra unit of labor, /\ L, holding other factors constant
Marginal Product of Labor
(MP v L)
MPvL = /\q divided by /\L
Determines how much an extra worker will increase output
Marginal Production of Labor
The ratio of output, q, to the number of workers, L, used to produce that output
Average Product of Labor (APvL)
APvL = q/L
To find out if output will rise in proportion to extra labor
Average Product Per Worker
Explains how firms make decisions about production processes, types of inputs to use, and the volume of output to produce
Economic Theory
If a firm keeps increasing an input, holding all other inputs and technology constant, the corresponding increase in output will become smaller eventually
The Law of Diminishing Marginal Returns
aka
Diminishing Marginal Product
*total return can still rise
As the amount of labor used grows large enough, the marginal product curve becomes
Nearly Flat
Extra labor causes total output to fall
Diminishing Returns
The firm has more flexibility in how it produces and how it changes its output level when all factors can be varied
Long-Run Production
Firm can substitute one input for another while continuing to produce the same level of output
Ex. Produce 400 planks of wood using 10 people with hand saws, 4 people with handheld power saws, or 2 people with bench power saws
Long-Run Production
A curve that shows the efficient combinations of labor and capital that can produce a single level of output (quantity)
Isoquant
q=f(L,K) where q has bar over it because output is held constant
The further an isobutane is from the origin, the ______ the level of output
Greater
The more input it uses, the more output it gets if it produces efficiently
Do isoquants cross?
No
If they cross then the firm is producing inefficiently
Isoquants slope ____
Downward
If it slopes upward that means it can produce same output with less input (inefficient)
Slope of an isoquant
Marginal Rate of Technical Substitution (MRTS)
What does an isoquant curve show?
How readily a firm can substitute one input for another
Most isoquant slope (upward/downward), are (convex/concave), curve (towards/away) from origin and lie between _____ and _____
Downward Convex Away Perfect Substitutes (straight diagonal lines) Non Substitutes (right angles)
The number of extra units of one input needed to replace one unit of another input that enables a firm to keep the amount of output it produces constant
Marginal Rate of Technical Substitution (MRTS)
The slope of an isoquant is (positive/negative)
Negative
Firm can produce a given level of output by substituting more capital for less labor (or vice versa)
Marginal Rate of Technical Substitution (MRTS)
Tells us how much a firm can increase one input and lower the other while still staying on the same isoquant
Marginal Rate of Technical Substitution (MRTS)
The decline MRTS (in absolute value) along an isoquant as the firm increases labor
Diminishing Marginal Rates of Technical Substitution
The more labor and less capital a firm has, the harder it is to replace remaining capital with labor and the flatter the isoquant becomes
Diminishing Marginal Rates of Technical Substitution
When don’t isoquants exhibit diminishing marginal rates of technical substitution?
When isoquants are straight lines
aka
Inputs are perfect substitutions
When do you shift from one isoquant to another?
By increasing one input while holding the other input constant
How the ratio of output to input varies with the size of the firm is an important factor in determining the size of a firm
Returns to Scale
Property of a production function whereby when all inputs are increased by a certain percentage, output increases by that same percentage
Constant Returns to Scale (CRS)
Property of a production function whereby output rises more than in proportion to an equal increase in all inputs
Increasing Returns to Scale (IRS)
If doubling inputs more than doubled the output
f(2L,2K) > 2f(L,K)=2q
Increasing Returns to Scale (IRS)
Property of a production function whereby output increases less than in proportion to an equal percentage increase in all inputs
f(2L,2K)
Decreasing Returns to Scale (DRS)
Production function where the returns to scale are the same at all levels of output
Cobb-Douglas
The amount of output that can be produced with a given amount of inputs varies across firms and over time
Productivity and Technical Change
