Rational Producer Behaviour

Question 1

What happens to revenue when the firm faces a downwards-sloping demand curve?

Answer 1

For a normal, downward-sloping demand curve, TR rises at first but will eventually start to fall as output increases because the extra revenue gained from dropping the price and selling more units is outweighted by the loss in the revenue from the units that were being sold at a higher price and now have to sold at the lower price.

Basic rules:
1. When PED is elastic any firm wishing to increase revenue should lower its price.
2. When PED is inelastic any firm wishing to increase revenue should raise its price.
3. When PED is unity then any firm wishing to increase revenue should leave the price unchanged, since revenue is already maximized.

Question 2

Law of diminishing marginal returns

Answer 2

As more of the variable factors are applied to the fixed factors, the extra output per unit of the variable factors eventually begins to fall, and so the extra cost per unit of output eventually rises.

Question 3

Law of diminishing average returns

Answer 3

As more of the variable factors are applied to the fixed factors, the output per unit of the variable factor eventually falls, and so the cost per unit of output eventually increases

Question 4

Explicit cost

Answer 4

A type of OC. direct transfer of money, a firm paying for the fops it does not own

Question 5

Implicit cost

Answer 5

A type of OC, costs that are incurred when a firm already owns the fops and could have used them in a different way, no transfer of money
1. The owner’s OC
2. Unused capital

Question 6

Short-run

Answer 6

At least one FOP is fixed, usually capital, all production takes place

Question 7

Long-run

Answer 7

All FOPs are variable, all planning takes place

Question 8

Short-run costs (TFC, TVC, TC, AFC, AVC, ATC, MC) + their graphs

Answer 8

Total costs:
- TFC (total fixed cost) = the cost of the number of fixed assets (usually capital)
- TVC (total variable cost) = the cost of the number of variable assets (usually labour)
- TC = TFC + TVC

Average costs:
- AFC (average fixed cost) = the fixed cost per unit of output, TFC/q (q=units produced), because TFC is a constant, AFC will continuously decline with output
- AVC (average variable cost) = variable cost per unit output. TVC/q, will eventually increase due to the law of diminishing returns (inefficiencies will lead to the unit per output becoming more expensice)
- ATC (average total cost) = total cost per unit of output, AFC + AVC
- MC (marginal cost) = increase in total cost of producing an extra unit of output, change in TC / change in q, how much does it cost to make one more unit

Question 9

What is the main difference between ‘total costs’ and ‘average costs’?

Answer 9

Total costs = complete costs of producing output
Average costs = costs per unit of output

Question 10

Difference between fixed and variable costs?

Answer 10

Fixed costs are constant
Variable costs change with output

Question 11

Profit Maximisation graph (MC, AC, AR)

Answer 11