Chapter 9

All ofthe following are considered implicit costs except: a)paying rent on an existing building. b)interest that could have been earned from the savings account if the money were not used on the existing business. c)the wages the entrepreneur could have earned if he or she chose to pursue a career in corporate America. d)forgone entrepreneurial income.

A

Decreasing marginal cost:

Each additional unit costs less to produce than the previous one.

Constant marginal cost:

Each additional unit costs the same to produce as the previous one.

Misperceptions of opportunity costs

If we don't understand all ofthe costs, we cannot make a rational choice.

Sandy owns a firm with annual revenue of $1 million. Wages, rent, and other costs are $900,000. Suppose that instead of being an entrepreneur, Sandy could get a job with an annual salary of $250,000. Assume that a job would be as satisfying to Sandy as being an entrepreneur. Calculate Sandy's economic profit. a)$100,000 b)$50,000 c)$0 d)-$150,000

TR=1,000,000 EX= 900,000 IM=250,000 Econ profit: 1,000,000-900,000-250,000=-150,000 SO answer= D

explicit costs

The actual payments a firm makes to its factors of production and other suppliers. EX: - recipits -tuition -meal plan

Marginal benefit:

The additional benefit derived from producing one more unit of that good or service.

sunk cost

a cost that has already been committed and cannot be recovered ex: If you lose your concert tickets, the $80 you've already spent on them is irrelevant to the decision whether to replace them

Increasing marginal cost:

each additional unit costs more to produce than the previous one

OPPORTUNITY COST=

explicit cost + implicit cost

behavior at supermarket

impulse buying

Neoclassical Economics

relates supply and demand to an individual's rationality and his or her ability to maximize utility or profit.

ex: neoclassical at supermarket

shoppers respond positively to incentives or lower prices

marginal cost curve

shows how the cost of producing one more unit depends on the quantity that has already been produced

Status quo bias

tendency to do nothing when faced with making a decision (avoiding) (ex: you get an option to opt out of voting)

Marginal benefit:

the additional benefit derived from producing one more unit of a good or service. MR=delta TR/ delta Q

Marginal cost:

the cost of producing one more unit of a good MC= delta TC/delta Q

implicit cost of capital

the opportunity cost of the use of one's own capital: the income earned if the capital had been employed in its next best alternative use (e.g., forgone interest income).

behavioral economics

the study of situations in which people make choices that do not appear to be economically rational 1.Focusing on the mental process behind decisions 2.Improving outcomes by improving decision-making.

Capital

the total value of assets owned by an individual or firm—physical assets plus financial assets.

economic profit=

total revenue - explicit costs - implicit costs

Complementary explanations at the supermarket

viewing behavior and neoclassical economics as complements

Counting dollars unequally

•Mental accounting: the habit of mentally assigning dollars to different accounts so that some dollars are worth more than others. ex: spending money or credit cards vs with cash this way you have the chance to improve your credit score

overconfidence

•Nonprofessional investorswho engage in speculative investing have significantly worse resultsthan professional brokers because of their misguided faith in their ability to spot a winner.

Loss aversion or Prospect Theory

▪An oversensitivity to loss that leads to unwillingness to recognize a loss and move on

Profit-maximizing principle of marginal analysis

▪For a profit-maximizing "how much" decision, the optimal quantity is the largest quantity at which the marginal benefit is greater than or equal to marginal cost. MR=MC

two systems for this

▪System 1 - Gut Instincts, Intuitions... Heuristics ▪System 2 - Slow deliberate conscious calculations

most marginal costs curves

check mark looking, decrease then increase

Economic Profit= Zero

(Normal Profit) - you are doing as well as you would expect to do in the next best alternative.

types of decisions

1.A choice between two alternatives ("either-or") 2.A more complex choice that requires us to choose at the margin ("how much?")

Three reasons people might rationally choose a worse payoff:

1.Concerns about fairness: Providing for others sometimes eclipses self-interest. 2.Bounded rationality—"good enough": Making a choice that is close to(but not exactly) the highest possible profit. MAY MAKE SENSEbecause the effort of finding the best payoff is too costly. (Transaction Costs) 3.Risk aversion: Willingness to sacrifice some economic payoff in order to avoid a potential loss IS FAIRLY COMMON.

implicit costs

Indirect, non-purchased, or opportunity costs of resources provided by the entrepreneur EX: not as obvious, four years of wage you gave up to go to school

Unrealistic expectations about future behavior

Most of us are overly optimistic about our future behavior and level of discipline

normal profit

When economic profit is zero.

Economic Profit > Zero

You are doing better than in an alternative venture.

Economic Profit < Zero

You can do better by switching to a better alternative.

irrational decision maker

chooses an option that leaves him or her worse off than choosing another available option

rational decision maker

chooses the available option that leads to the outcome he or she most prefers

(Pizzeria and Bakery)positive economic profit/greater than 0. TR=100 EX=50 IM=25, what else could have I done with space/location?

accounting profit 100-50 -economic profit 100-50-25, if this is positive it is a good choice econ profit=0 normal profit. TR =100 EX=50 IM=50. positive accounting profit, both give the same level profit econ profit is less than zero. negative. TR=100 EX=50 IM=100 econ profit =100-50-100 =-50 (wrong choice) no pizza, yes bakery