Theory of the Firm Definitions

Question 1

Profit Maximisation

Answer 1

The level of output where the marginal revenue equals the marginal cost (MR=MC)

Question 2

Revenue Maximisation

Answer 2

The level of output where the marginal revenue cuts the x-axis (MR=0)

Question 3

Predatory pricing

Answer 3

Firms charging very low prices in order to gain more market share in the industry - sacrificing profits for dominance in the market

Question 4

Satisficing behaviour

Answer 4

Accepting or being satisfied with a lower level of output

Question 5

Principal-agent problem

Answer 5

The objectives of the owners of a firm and the objectives of the managers of firm being different

Question 6

Perfect Competition

Answer 6

A market where there is a large number of firms producing identical products, each with no ability to set prices

Question 7

Monopoly

Answer 7

A market where one firm dominates the market for a good that has no substitutes and where there significant barriers to entry.

Question 8

Monopoly power

Answer 8

The ability to set price in a market

Question 9

Monopolistic Competition

Answer 9

A market structure where there are many buyers and sellers, producing differentiated products, with low barriers to entry or exit. They have some monopoly power

Question 10

Oligopoly

Answer 10

A market structure where there are few firms dominate the market selling identical or differentiated products. They have significant market power.

Question 11

Allocative efficiency

Answer 11

When consumers pay a market price that reflects the private marginal cost of production; P=MC

Question 12

Productive efficiency

Answer 12

When a firm is combining resources in such a way as to produce a given output at the lowest possible average total cost; MC=ATC

Question 13

Non-price competition

Answer 13

Where firms attempt to win a competitive advantage over their rivals by strategies other than reducing price - involves product differentiation

Question 14

Economies of scale

Answer 14

Unit cost advantages that a business may experience as an outcome of increasing its scale of operations 
Types:
	- Specialization
	- Efficiency
	- Marketing
	- Indivisibilities

Question 15

Variable costs

Answer 15

Costs of production that change as output changes i.e. direct labor costs, costs of raw materials

Question 16

Fixed costs

Answer 16

Costs of production that are independent of the level of output and exist even if output is zero i.e. rental lease, property taxes, insurance

Question 17

Normal profit

Answer 17

Revenue that covers all costs including opportunity cost; implicit and explicit costs covered by revenue

Question 18

Decreasing returns to scale

Answer 18

A production technology where a 1% increase in all inputs lead to a smaller than 1% increase in output; diseconomies of scale

Question 19

Law of diminishing returns

Answer 19

Increased variable factors of production added to the production process, when at least one factor of production is fixed, will at some point result in falling marginal output