Chapter 7: Production, Costs, and Industry Structure

Question 1

What is a Firm?

Answer 1

An organization that combines inputs (labor, capital, land, and raw material) to produce outputs.

Question 2

draw mc, atc, afc, and avc in a graph. Draw TC, VC, and FC on a graph. draw mp and tp. recognized diff lrac curves. Identify areas of lrac curve.

Question 3

Production

Answer 3

The process of combining inputs to produce outputs:
* transportation,
* distribution,
* wholesale and
* retail sales
* manufacturing

Question 4

The Four Different Market Structures, examples

Look at scale in notes

Answer 4

Perfect competition: many firms are selling identical products (ex. farmers).
Monopolistic competition: many firms selling similar but differentiated products (ex. smartphones, beverages, clothing).
Oglipoly: Few large firms that sell identical/similar products (airlines, automobiles).
Monopoly: Only one firm sells the product and they face no competition (BC Hydro, Canadian Pacific Railway).

Question 5

Total Revenue, Formula

Answer 5

The income a firm generates from selling its products = Price x Quantity

Question 6

What is total cost? Fomula

?? the other total cost has different definition?

Answer 6

What the firm pays for producing and selling its products;
production involves the firm converting inputs to outputs, each input has a cost to the firm = the sum of explicit and implicit costs.

Question 7

The Two Types of Cost

Answer 7

Explicit: Out-of-pocket costs/actual payments (ie. wages paid to employees, rent for an office).
Implicit: The opportunity costs of using resources the firm already owns (ie. salary from another employer that the business owner foregoes, rent that could be made from the occupied building).

Question 8

Accounting profit, formula

Answer 8

Direct calculation of the difference between dollars brought in and dollars paid out; considers only explicit costs, therefore is usually higher than economic profit =Total Revenue-Explicit Costs

Question 9

Economic profit

Answer 9

=Total Revenue-Explicit Costs-Implicit Costs

Question 10

Inputs/factors of production:

Answer 10

• Natural Resources (land, raw materials)
• Labor
• Capital (equipment, machinery, buildings)
• Technology
• Entrepreneurship

Question 11

Fixed inputs

Answer 11

(K, capital): factors of production that can’t be increased or decreased in the short run. E.g. building of a restaurant.

Question 12

Variable inputs

Answer 12

(L, labor): factors of production that a firm can easily increase or decreased. E.g. amount of food served at a restaurant.

Question 13

Production function, and what is it for?

Answer 13

Q=f[NR, L, K, t, E]. It expresses the amount of output the firm can produce given different amounts of input.

Question 14

Short run

Answer 14

The period of time during which at least some factors of production are fixed (usually only labor is variable, while capital is fixed).

See example of lumberjacks in notes

Question 15

Long run

Answer 15

The period of time during which all factors of production are variable.

See example of lumberjacks in notes

Question 16

What is marginal product (MP), formula, slope

very important

Answer 16

the additional output of one or more workers (or one or more variable inputs) = change in TP divided by change in L.
* The slope of any point on the TP line is MP.

Seet graph in notes

Question 17

Law of diminishing marginal productivity/ diminishing marginal returns of labor.
Why does it happen?

Indicate where on MP and TP graph

Answer 17

States that as a firm employs more labor, eventually the amount of additional output produced declines OR as more units of a variable input are added to a fixed input, after a certain point, the marginal product of the variable input will begin to decrease

Because of constraints of fixed capital in the short run (see graphs in notes).

Question 18

Factor payments aka costs, types

Answer 18

What the firm pays for use of the factors of production (aka costs).
* Raw material prices for raw material
* Rent for land and building
* Wages and salaries for labor
* Interest and dividends (interest is paid to lender and dividends are paid to owner)
* Profit

See deriving cost function for producing widgets in notes

Question 19

Average (total) cost formula, shape

Answer 19

Total cost divided by the quantity of output produced (typically u-shaped). ATC=TC divided by Q.

Question 20

What is marginal (total) cost, shape, formula

Answer 20

The additional cost of producing one more unit of output (generally upward-sloping) MC= change in TC divided by change in Q.

see graph

Question 21

Average variable cost

Answer 21

= variable cost divided by quantity of output.
* Lies below the ATC curve
* Typically u-shaped or upward-sloping

Question 22

Average profit/profit margin

*

Answer 22

Determine if the firm is (economically) profitable = price - average total cost.
* If price > average cost, then average profit will be positive.
* If price < average cost, then average profit will be negative.

Question 23

Variable costs, example

Answer 23

Cost of production that increases with the quantity produced; costs of the variable inputs (e.g. labor, raw material)

Question 24

Fixed costs/”overhead” costs, example, are there fixed costs in the long run?

Answer 24

Costs of fixed inputs (e.g. capital, rent, insurance) (short run).
* Expenditure that a firm must make before production starts.
* expenses a firm must pay regardless of its output.

There are no fixed costs in the long run

Question 25

Total cost

How the hell is this different from the other total cost?

Answer 25

Sum of fixed and variable costs of production

Question 26

Long Run*

long-run average cost (LRAC) curve, how is it formed?

Answer 26

shows the lowest possible average cost of production, allowing all the inputs to production to vary so that the firm is choosing production technology that were used in short-run in order to produce at the lowest cost.
* formed by the bottom edge of the family of SRAC curves.**

It does NOT show total of AFC and AVC like the SRAC bc there are no FC in the long run!

Question 27

*

short-run average cost (SRAC) curve

Answer 27

the average total cost curve in the short term; shows the total of the average fixed costs and the average variable costs.

Question 28

production technologies

Answer 28

a mix of capital and labor (inputs) that is used to make a product (outputs).

Question 29

Economies of scale, why does it happen?

See fig. 7.8 and 7.9

Answer 29

Where the long-run average cost of producing output decreases as total output.
* Because the firm can use cost-saving mass production techniques, so a larger factory can produce at a lower average cost than a smaller factory.

Question 30

Constant returns to scale

Answer 30

Where expanding all inputs proportionately does not change the average cost of production.

Question 31

Diseconomies of scale, why does it happen?

Answer 31

the long-run average cost of producing output increases as total output increases.
* because the firm gets too big and difficult to manage.

Question 32

How are MC and ATC related?

important

Answer 32

If our marginal is greater than our average, our average increases. If the marginal is less than our average, our average decreases. Where MC curve intersects with ATC curve at the min. point of the ATC curve, is the point of transition between where MC is pulling ATC down and where it is pulling it up.

Question 33

Short-run

What is the relationship between MP and TP?

Answer 33

The MP curve initially increases (specilization), reaches its maximum and then declines. The maximum of MP is reached at the point where law of diminishing marginal product kicks in, and TP starts to increase at a diminishing rate. But TP is always positive even when MP declines.

Question 34

Per-unit short-run cost curves

Answer 34

MC, ATC, AVC

Question 35

Entire quantity of output produced cost curves

Answer 35

TC, FC, VC

Question 36

What is normal profit?

Answer 36

Zero economic profit (breaking even).