Midterm 2 Flashcards
accounting profit
total revenues minus explicit costs, including depreciation
economic profit
total revenues minus total costs (explicit plus implicit costs)
explicit costs:
out-of-pocket costs for a firm, for example, payments for wages and salaries, rent, or materials
implicit costs:
opportunity cost of resources already owned by the firm and used in business, for example, expanding a factory onto land already owned
budget constraint (or budget line):
shows the possible combinations of two goods that are affordable given a consumer’s limited income
diminishing marginal utility:
the common pattern that each marginal unit of a good consumed provides less of an addition to utility than the previous unit
fixed cost:
cost of the fixed inputs; expenditures that do not change regardless of the level of production (at least in the short term)
marginal cost:
the additional cost of producing one more unit; mathematically,
variable cost:
cost of production that increases with the quantity produced; the cost of the variable inputs
average total cost:
for any quantity of output, total cost divided by the quantity of output
average variable cost:
for any quantity of output, variable cost divided by the quantity of output
monopoly:
a situation in which one firm produces all of the output in a market
1. one seller
2. no close substitutes
3. high barriers to entry
price discrimination:
charging different prices to different customers for the same product.
price taker:
firms in a perfectly competitive market; since no firm has any market power they must take the prevailing market price as given
break-even point:
the level of output where price just equals average total cost, so profit is zero
shutdown point:
level of output where the marginal cost curve intersects the average variable cost curve at the minimum point of AVC; if the price is below this point, the firm should shut down immediately
market power
the ability of a firm to raise prices
differentiated product:
a product that its consumers perceive as distinctive in some way
perfect competition
market structure where each firm faces many competitors that sell identical products so that no firm has any market power
1. many buyers and sellers
2. homogeneous products
3. Buyers and sellers have all the relevant information to make rational decisions about the product being sold
4. free entry and exit
market failure
when the market on its own does not allocate resources efficiently in a way that balances social costs and benefits
zero economic profit
a firm earning just enough revenue to cover all explicit and implicit costs (TR=TC)
Monopolistic competition
-a market structure that is a little bit like monopoly and a little like perfect competition
1. Many competitors
2. differentiated product
3. free entry and exit
Common methods of price discrimination
-Advance purchase restrictions
-Volume discounts
-Two-part tariffs
Conditions for successful price discrimination
- Must have market power (Cannot be a price taker)
- Able to distinguish between buyers who have different WTP
- Prevent resale
-Physical goods can be resold
-Service or experience good cannot
Oligopoly
-a market dominated by a small number of firms
-is torn between the desire to gain market share and the knowledge of cooperating with other oligopolists to reduce output will lead to higher industry profits
Types of market failure
- Imperfect competition (too little of the good is produced at too high price)
- Imperfect information (Price system provides brilliant solutions for some info problems but markets don’t handle all info that well)
- Externalities (taking an action that directly affects others without paying or being paid)
- Public goods (nonrival and nonexcludable -> free-rider problem)
