Chapter 9A: Short Run Flashcards
What is the goal of the firm
If a firm is not profitable, it cannot continue to exist in the long run therefore the goal of the firm is profit maximisation
Basic concepts
Total
- Sum of
Average
- Total divided by Qty
Marginal
- Change in total
- Per extra or additional unit
Explain short run
- At least one of the inputs is fixed (e.g. capital, land)
- Has fixed plant capacity size
- A firm can only expand its output by increasing the quantity of the variable input (e.g. labour, raw materials)
Explain long run
- All the inputs are variable
- Has a variable plant capacity size
- E.g. New factory
Accounting Costs
This includes explicit costs
- Refers to money that companies, firms pay for factors of production and other inputs
- E.g. Explicit costs would be the amount that it cost you to go around selling your product the money you spend on advertising and wedges
Economic Cost
This is more comprehensive
- Includes both explicit and implicit costs
- Implicit costs are opportunity costs that are not reflected in monetary payments
- Implicit costs would include the value of whatever else you could’ve been doing with your time instead, salary you could’ve been receiving had you gone to work instead of opening the business
What is total profit (accounting profit)
TR - Explicit costs
TR > Explicit costs
What is normal profit
- Minimum profit that is just covering the firms cost
- TR = TEC
What is economic profit
TR - TEC (Implicit + Explicit)
TR > TEC
If TR < TEC The firm is making a negative economic profit/loss
What is abnormal/excess/supernormal profit
Profit > Implicit + Explicit
What is production
Production is the physical transformation of inputs into outputs
The main goal is to maximise profit by maximising the positive difference between TR and TC
What are the assumptions for analysing production in the short run
- 1 product
- Homogeneous, devisable
- Inputs can be divided and can be used in limitless quantities
- Fixed production function, price, inputs and variable input
What is the production function (PF)
Relationship between the inputs of a firm and their output at a given period of time, ceteris paribus
In short, relationship between input and output of the firm
What does the production function depend on
It depends on the state of technology, when technology changes, the PF changes.
For instance, introducing a new technique in production can enable a firm to combine inputs differently and obtain a higher level of output with the same amount of input
What are the characteristics of inputs
Fixed: This means that the level of usage cannot be changed.
Land, capital
Variable: Level of usage can be changed.
Labour services, raw materials
When analysing the short run, one input must be fixed.
True or False
True
What is the law of diminishing marginal returns
States that when more of a variable input is combined with one or more fixed inputs in a production process, points will eventually be reached with first the marginal product, then the average product and finally the total product start to decline
Further explain the law of diminishing marginal returns
The average product of the variable input = TP/N
The marginal product of the variable input = changes in TP/changes in N
Relationship between average and marginal product of labour
Average product increases if marginal product is above it, it reaches a maximum where it is equal to marginal product and then decreases when marginal product is below it
Explain the relationship between the total product of labour and marginal product of labour
Total product increases as long as marginal product is positive, but once marginal product becomes negative total product decreases
Name and explain the short run production costs
Fixed cost - Cost that remains constant irrespective of the quantity of output produced. Also called overheads e.g. rent (land)
Variable cost - cost the changes when total product changes. Also called direct costs e.g. labour costs
Total cost = Total fixed cost + total variable cost
Average cost = Average fixed cost + average variable cost
Marginal cost = The increase in total cost when one additional unit of output is produced
