MICRO ECONOMICS (Chapters 14-16)

Profit maximization for a competitive firm:

(Refer to Top Hat, Chapter 14, Slide 13) The firm maximizes profit by producing the quantity at which marginal cost equals marginal revenue.

Marginal Costs as the Competitive Firm's Supply Curve:

(Refer to Top Hat, Chapter 14, Slide 15) Since P = MR for competitive firms, an increase in price increases the firm's profit-maximizing quantity from Q1 to Q2. The marginal-cost curve IS the firm's supply curve.

Sunk cost:

A sunk cost is a cost that has already been committed and cannot be recovered. Suck costs should be ignored when making decisions. In the SHORT RUN, FIXED COSTS are SUNK COSTS.

Economists assume firms want to maximize profit. To do so, firs think at the _____.

margin

The Competitive Firm's Short-Run Supply Curve:

(Refer to Top Hat, Chapter 14, Slide 21) If P < AVC, the firm is better off shutting down temporarily, because total variable costs (AVC x Q) are greater than total revenue (P x Q). If P < AVC, the firm is better off shutting down temporarily. In the short run, the competitive firm's supply curve is the portion of the MC curve that lies above the AVC curve.

The Competitive Firm's Long-Run Supply Curve:

(Refer to Top Hat, Chapter 14, Slide 25) If P < ATC, the firm is better off exiting the market, because total costs will exceed total revenue. In the long run, the competitive firm's supply curve is where its MC curve lies ABOVE its ATC curve.

Profit as the Area between Price and Average Total Cost: a) A firm with profits (P > ATC) b) A firm with losses (P < ATC)

(Refer to Top Hat, Chapter 14, Slide 27) Recall: Profit = TR- TC. If TC > TR, then the firm experiences a loss.

Short-run Market Supply: a) Individual firm supply b) Market supply

(Refer to Top Hat, Chapter 14, Slide 32) In the short run, the number of firms in the market is fixed. Here, in a market of 1,000 firms, the quantity of output supplied to the market is 1,000 times the quantity supplied by each firm.

Features of Competitive Markets (defining characteristics):

-Many buyers and many sellers -Goods/services offered are virtually the same -Buyers and sellers are PRICE TAKERS -"Free" entry and exit (ease of entry and exit)

For competitive firms, ONLY marginal revenue EQUALS the market price. Why?

...

The various market structures we will explore include:

1. Competitive market (Ch. 14) 2. Monopoly (Ch. 15) 3. Monopolistic competition (Ch. 16)

Average Revenue:

Average Revenue = Total Revenue (TR)/ Quantity Sold (Q) = Market Price

How do competitive firms maximize profit?

Competitive firms maximize profit by producing the level of output for which MARGINAL REVENUE EQUALS MARGINAL COST.

What is the ONLY way for competitive firms to increase revenue?

Competitive firms take the price as given; hence, increasing quantity sold (OUTPUT), is the ONLY way to increase revenue. Similar to costs, firm owners care about both AVERAGE REVENUE and MARGINAL REVENUE.

CHAPTER 14:

FIRMS IN COMPETITVE MARKETS

Example: Near empty restaurants Restaurant: Stay open for lunch?

FIXED COSTS -Not relevant -Are sunk costs in short run VARIABLE COSTS -ARE relevant -Shut down if lunch revenue < variable costs -Stay open if lunch revenue > variable costs Staying open can be profitable, even with many tables empty.

Linking average revenue and marginal revenue:

For competitive firms, both average revenue and marginal revenue equal price. Average Revenue = Marginal Revenue = Price

Firms use marginal revenue to answer the question:

How much additional revenue would I earn if I increase production by one unit?

Firms use average revenue to answer the question:

How much revenue to I typically earn form one unit of my produce?

Output rules for profit maximization:

If MR > MC, firm should increase output If MR < MC, firm should decrease output If MR = MC, profit-maximizing level of output

The rule so profit maximization:

If MR > MC, profit increases If MR < MC, profit declines

If P < ATC (Measuring Profit)

Loss = TC - TR = (ATC - P) x Q Loss->Negative profit

Each firm supplies quantity where P = ? (Deriving the Market Supply Curve)

MC

For P > AVC, each firm's supply curve is their _____ curve.

MC

Marginal Revenue:

Marginal Revenue = Change in Total Revenue/ Change in Quantity Sold

In the LONG RUN, firms can enter/exit the market if:

P > ATC, firms make positive profit. --New firms ENTER the market. P < ATC, firms make negative profit. --Firms EXIT the market.

If P > ATC (Measuring Profit)

Profit = TR - TC = (P - ATC) x Q

Market structure:

Refers to the number of firm in the market, the easy of entry/exit, and the ability of firms to differentiate their product.

SHUTDOWN vs. EXIT:

Shutdown: --A short-run decision not to produce anything during a given period because of current market conditions. --Firms STILL have to pay fixed costs Exit: --A long-run decision to leave the market. --Firm DOESN'T have to pay any costs

TOP HAT SLIDE 34...TOP HAT SLIDE 34

TOP HAT SLIDE 34...TOP HAT SLIDE 34

When to shut down?

The firm shuts down if the potential revenue it would earn from producing is less than its variable costs. Shut down if TR < TVC (or if P < AVC) Firms ask: is the price I receive for a typical unit greater than my cost of producing a typical unit?

In the LONG RUN, firms must decide whether to enter or exit the market:

The firm with ENTER if TR > TC (or, P > ATC) The firm will EXIT if TR < TC (or, P < ATC) In the long run, ALL costs can vary; hence, ALL costs are considered when making entry/exit decisions.

The firms objective:

The overarching assumption is that firms seek to MAXIMIZE PROFIT. Recall: Profit = Revenue - Total Cost

Market supply:

The sum of quantity supplied by each firm.

Revenue:

Total Revenue = Price x Quantity sold

For competitive firms, P = MR ->

firms maximize profit where P = MC.

In the short run, the market has a _____ number of firms. (Deriving the Market Supply Curve)

fixed