AGR 110 FINAL

What is the difference between economic profits and accounting profits, and why is this difference important for decision-making?

*Economic = Total Revenue - Explicit Costs - Implicit Costs *Accounting = Total Revenue - Explicit Costs *You need to understand the opportunity costs that were forgone (implicit costs) in decision making, not just your explicit costs (outlaying of money). That is why economic profits are more important than accounting profits (i.e. starting own cattle farm vs working on a different farm)

What are barriers to entry (or sources of market power), and what are real-world examples for them?

*Something that prevents other firms from entering the industry -control of natural resources or inputs -increasing returns to scale -technological superiority -government-created barriers including patents and copyrights

What happens to the different cost curves when the price of one of fixed and variable inputs change?

*Total Product Curve moves upward -This is because the quantity of output nd marginal product depend on the level of fixed input. A shift in increased input shifts the total product curve up. *Marginal Product Curves Moves Upward -The marginal product of each worker is also higher -Note that both Marginal Product of labor curves still slope downward due to diminishing returns to labor -Marginal Cost Curve is Upward Sloping (implies that more and more of the variable input must be used to produce each additional unit of output and since each unit of the variable input must be paid for, the cost per additional unit also rises)

Why and when does a firm decide to shut down, and is profit zero in that case?

-A firm will cease production in the short run if the market price falls below the shut-down price. (break even price: price = minimum ATC) -They shut down because the market price makes the same (negative) profit from either staying open or shutting down (for the season, night, etc.)

What happens in the long run if firms in a perfectly competitive market make negative profits in the short run?

-Existing producers will shut-down and new entrants will not exist. -There will be a fall in industry output and a rise in price

What is the difference between "shutting down" and "exiting"?

-Exiting = the departure of firms from an industry (you can enter back in easily with free entry and exit) (long-run decision) -Shutting Down = When a firm completely ceases the production of a good or service (short-run decision)

What is an externality? What are some examples of positive and negative externalities?

-External costs and benefits -Positive: walking to work in a city, education -Negative: Pollution

What is the difference between the demand one single perfectly competitive firm faces and the demand in an entire market?

-Firm = horizontal line -Market = Downward

What is the difference between variable and fixed inputs?

-Fixed: An input whose quantity is fixed for a period of time and cannot be varied -Variable: An input whose quantity the firm can change relatively quickly

If a person consumes two (or more) goods, how should this person allocate his/her budget between the goods in order to maximize his/her utility?

-Have an optimum bundle = consumption bundle that maximizes total utility given their budget constraint -Optimal Consumption Rule = when a consumer maximizes utility, the marginal utility per dollar spent must be the same for all goods and services in the consumption bundle

How are average total, average variable, average fixed and marginal costs related to each other?

-MC = (change in total cost)/(change in quantity of output) -AVC = (Variable Cost)/(Quantity) -Total Cost = Fixed Cost + Variable Cost -ATC = (Total Cost)/(Quantity) -AFC = (Fixed Cost)/(Quantity)

Which costs matter when making a decision—sunk costs or opportunity costs? Why is that difference important when thinking, for example, about investing in unprofitable firms or using an already bought ticket?

-Opportunity Costs (benefit you must give up in order to get a resource) (lowest ones are used first) -Sunk Costs are are costs that are incurred in the past and cannot be recovered -You must make a trade-off when you compare the cost with the benefits of doing something (if you have already invested in an unprofitable firm or already bought a ticket, those a sunk costs = cannot be recovered), however, SUNK COSTS SHOULD BE IGNORED IN DECISIONS ABOUT FUTURE ACTIONS.

What is the common resource problem?

-Overuse: when a user depletes the amount of the common resource available to others but does not take this cost into account when deciding how much to use the common resource. -Reason: marginal social cost of my use of that resource > individual marginal cost of using an additional unit of the good.

What is the profit-maximizing rule for a firm?

-Profit = Total Revenue - Total Costs (profit maximization occurs at the biggest gap between Total revenue and total costs.) -A firm can maximize profits if it produces at an output where Marginal revenue (MR) = Marginal cost (MC)

What is the difference between the short-run and the long-run equilibrium in perfect competition?

-Short-Run: Quantity supplied equals the quantity demanded, taking the number of producers as given. -Long-Run: Quantity supplied equals the quantity demanded, given that sufficient time has elapsed for entry and exit from the industry to occur (flatter, more elastic, but may move upward)

How is the total willingness-to-pay for a public good calculated?

-The marginal social benefit of an additional unit of a public good is equal to the sum of each consumer's individual marginal benefit from that unit (his/her marginal willingness-to-pay). -At the efficient quantity, the marginal social benefit equals the marginal cost.

THE rule (and its variations): How is the optimal level of any activity determined?

-The optimal quantity of any activity is the quantity that generates the max possible total net gain. -The principle of marginal analysis says that the optimal quantity is the quantity at which marginal benefit is equal to marginal cost

What happens in the long run if firms in a perfectly competitive market make positive profits in the short run?

-There will be an increase in output from new entrants -Higher industry output from new entrants drive price and profit back down

How does a monopolist choose optimal output?

-To maximize profit, the monopolist compares marginal cost with marginal revenue. -If marginal revenue exceeds marginal cost, monopolist increases profit by producing more; if marginal revenue is less than marginal cost, monopolist increases profit by producing less. -So the monopolist maximizes its profit by using the optimal output rule: MR = MC

How are total, variable and fixed costs related to each other?

-Total cost equals the sum of fixed and variable costs. -Fixed cost doesn't depend on the quantity of output produced -Variable cost depends on the quantity of output produced.

What can be the effect of government interventions in market that does have problems with asymmetric information, externalities, lack of property rights, etc.?

-When the government interferes (and the market is not working well), the government can improve the social welfare -When the government does NOT interfere (and the market is not working well), there will be a loss in social welfare.

What is the effect of government interventions in market that does not have problems with asymmetric information, externalities, lack of property rights, etc.?

-When the government interferes (and the market is working well), there will be a loss of social welfare -When the government does NOT interfere (and the market is working well), there will be an efficient outcome.

What insight(s) did we get from the classroom game, in which students wrote the word "corn" on a piece of "land" on the whiteboard?

-You have to find a way to find a balance between input and output (production function) -In this case, a certain number of inputs will help maximize your outputs -But you have to make sure there is not too much of the inputs (workers) that will affect your output. (marginal product of labor)

How can one see profit in a graph with average total cost, average variable cost and marginal cost curve, and market price?

1. Marginal cost is upward sloping (after some point) due to diminishing returns 2. Average variable cost is also upward sloping (after some point) but is flatter than the marginal cost curve 3. For low quantities, marginal cost and average variable cost can be downward sloping due to the specialization of labor 4. Average Total Cost is U-Shaped

Explicit Costs

A cost that involves an outlaying of money

What is a public good?

A good that is both non-excludable and and non-rival in consumption. (i.e. scientific research, stop lights)

What is a common resource?

A good that is non-excludable and rival in consumption (i.e. fish in a lake)

What is the reason for the law of diminishing returns?

Additional production eventually becomes ever more costly as output levels grow. Thus, firms may require higher prices to justify expanding their outputs.

Accounting Profits

Business's revenue minus the explicit costs and depreciation

Economic Profits

Business's revenue minus the opportunity costs of its resources. (often less than the accounting profit)

Implicit Costs

Does not require an outlay of money (measured by the value, in dollar terms, of the benefits that are forgone).

What does the demand curve that a monopolist faces look like?

Downward Sloping

Principle of Diminishing Marginal Utility

Each successive unit of good or service adds less to the total utility than the previous one (for most goods and consumers).

What do "free-riders" do?

Individuals have no incentive to pay for their own consumption and instead will take a "free ride" on anyone who does pay.

How does marginal utility from a good change with a change in consumption of this good? What about total utility?

Marginal Utility: Each additional unit consumed adds less to the total utility (less satisfaction, continuous slope) Total Utility: total satisfaction received from consuming a given total quantity of a good or service (once they hit a peak, the satisfaction will go down)

How is a price determined in a market?

Supply and Demand

Marginal Utility

The change in total utility generated by consuming one additional unit of that good or service.

How are total surplus, producer surplus and consumer surplus related?

Total surplus is the sum of the producer and the consumer surplus

Why is perfect competition efficient?

When marginal revenue equal market price

When is a good "Non-rival?"

When more than one person can consume the same unit of the good at the same time.

When is a good "Rival"?

When the same unit of a good cannot be consumed by more than one person at the same time.

When is a good "Non-excludable?"

When the supplier cannot prevent consumption by people who do not pay for it.

When is a good "Excludable?"

When the supplier of a good can prevent people who do not pay for consuming it.