Econ 110 Exam 3 Study Guide

Production Function

relationship between the quantity of inputs a firm uses and the quantity of output it produces

long-run cost curve

shows the relationship between output and ATC when fixed cost has been chosen to minimize ATC for each level of output

Industry Supply Curve

shows the relationship between the price of a good and the total output of the industry as a whole

If the price is $10, the ATC = $15, the AFC = $4 and MR = MC, at an output level of 80 in a perfectly competitive firm, then in the short run, this firm should:

shut down because P < AVC

In the short run:

some inputs are fixed and some inputs are variable.

Entry into a market by new firms will increase the

supply of the good

decreasing returns to scale

the firm is too big and should produce less (green section)

increasing returns to scale

the firm is too small and should produce more (red section)

Jim and Lisa own a dog grooming business. There are many buyers and sellers in this market. JL groomers experiences normal cost curves, with the MC curve cross AVC curve at $14 and ATC at $22. JL groomers will make zero economic profit if the market price is:

$22 because where P = ATC is the min ATC

average cost (ATC)

- ATC = TC / Q - ATC = AFC + AVC - ATC tells a producer how much a typical unit of output costs to produce

How to decide on quantity with the profit maximizing rule

- If MR > MC, the firm should increase its quantity - If MR < MC, the firm should decrease its quantity

Short -Run cost curves

- MC = nike swoosh (draw first) - AVC = decreases until MC then decreases and under ATC - ATC = ( a big U) and middle line. decreases until you hit MC, then decreases

oligopoly

- few producers - may be identical or differentiated

monopolistic competition

- many firms - differentiated products

perfect competition

- many firms - identical producers

shut down rule in the short run

- produce as long as your P is greater than or equal to AVC - shut down temporarily if P < AVC

profit maximizing rule

- produce where MR = MC - P = MC

monopoly

- single producer - undifferentiated product

what happens when firms exit in the long run?

- supply decreases - P < ATC - increasing profits

what happens when firms enter in the long run?

- supply increases - P > ATC - price decreases so decreasing profits

Long Run Equilibrium

1. each firm will have zero economic profit (each firm produces at minimum ATC curve) 2. the value of MC is the same for all firms (all firms are producing where P = MC), (all firms in this market are price-takers) 3. industry is efficient

conditions for perfect competition

1. many buyers and sellers imply that no producer has an effect on market price or quantity 2. standardized product. Consumers regard products from different producers as the same. 3. free entry and exit. new producers can easily enter and competitors can leave when the market is n longer profitable.

The two dimensions of market structure

1. the number of firms in the market 2. whether the goods offered are identical or differentiated

average fixed cost (AFC)

AFC = FC / Q

average variable cost (AVC)

AVC = VC / Q

Which of the following is a characteristic of a competitive market?

Buyers and sellers are price takers

If a perfectly competitive firm's cost exceeds its marginal revenue, the firm:

Can increase economic profit (or minimize losses) by decreasing output

For a firm in a perfectly competitive market, the price of the good is always______________________________.

Equal to the marginal revenue

Exiting in the long run

If P < ATC, a firm will exit the industry in the long run

Entering in the long run

If P > ATC, the firm will stay in the industry and other firms will enter

If a competitive firm is selling 900 units of its product at a price of $10 per unit and earning a positive profit, then:

It's average total cost is less than $10

marginal cost

MC = change in TC / change in Q

In economics, we assume that firms make decisions in order to:

Maximize profits

When a perfectly competitive firm is in long-run equilibrium, the firm is producing at:

Minimum long-run average total cost

The total revenue generated last year by a company was approximately $1.2 million. Over the same period, the total costs of the program were approximately $1.7 million. Of the same $1.7 million in costs, $0.4 million was total variable costs (such as utilities) and $1.3 million was total fixed costs ( such as building expenses, insurance, and the CEO contract). Should the company shut down in the short run?

No because the company in generating enough revenue to cover its total variable costs, and losses would be minimized by continuing to operate.

total revenue

P x Q

Profit equation

Profit = (P - ATC) x Q

total cost equation (TC)

TC = ATC x Q

profit

TR -TC

When do you have a loss?

When P < ATC (or TR = TC)

When do you Breakeven?

When P = ATC (or TC = TR)

When are you making a profit?

When P > ATC (or TR > TC)

Do fixed costs matter in the long run?

Yes!

variable cost

a cost that depends on the quantity of output produced (cost of the variable input)

fixed cost

a cost that does not depend on the quantity of output produced (cost of the fixed input)

long run (inputs and outputs)

all inputs are variable

variable input

an input whose quantity the firm can vary at any time

diminishing returns

as you hire more workers it costs you more, and you don't get as much production out of them. As you increase labor you don't get as much marginal product

short run (inputs and outputs)

at least on input is fixed

At an output level of 15,000 halloween masks, the mask firm's average variable cost is $2, and its average fixed cost is $2. If the marginal cost of increasing output from 15,000 to 15,001 masks is $3, then over the range of output:

average fixed costs and average total costs will decline, but average variable costs will increase

fixed input

quantity is fixed for a period of time and cannot be varied

When talking about economic profits in a perfectly competitive market, the difference between the long run and short run is that, in the short run, firms:

can earn positive or negative economic profits, but in the long run, firms have zero economic profits

marginal revenue

change in TR / change in Q

marginal product of labor

change in output / change in input

The long-run average cost curve will be upward sloping when the firm has:

decreasing returns to scale

If Dirk's Doughnuts is a perfectly competitive firm and is currently incurring economic losses of $500:

firms will exit the market

total cost

fixed cost + variable cost

Kimberly owns a cupcake shop. The market is very competitive. At Kim's production level, her MC is $25 and her MR is $29. To maximize profits, Kim should:

increase production because MR > MC. Keep going!

It is common in large beer breweries for the long-run average total cost to decline as output increases. This indicates that many breweries operate under:

increasing returns to scale

price -takers

individuals whose actions have no effect on the market price

Firms will always suffer a loss only if the price they charge is:

less than their minimum ATC

industry supply curve in the long run

long run allows for the entry and exit of all firms

Lilly is the price-taking owner of an apple orchard. Currently the price of apples is high enough that Lilly is earning positive economic profits. In the long run, Lilly should expect: A. lower apple prices due to entry of new firms. B. higher apple prices due to exit of existing firms. C. lower apple prices due to exit of existing firms. D. higher apple prices due to entry of new firms.

lower apple prices due to the entry of new firms

Farmer McDonald sells wheat to a broker in Kansas City, Missouri. Because the market for wheat is generally considered to be competitive, Mr. McDonald maximizes his profit by choosing_____________________________________________________________.

the quantity at which the P =MC of production

Industry supply curve in the short run

there is a fixed number of producers

diminishing returns on total cost curve

total cost curve becomes steeper as output rises, due to diminishing returns oof the variable input

constant returns to scale

when long-run average total cost is constant as output increases (blue section)

finding loss on a graph

where P < ATC

finding break even point on a graph

where P = ATC

Chuck Diesel Burger is a food truck in Houston, Texas. Imagine that Chuck Diesel Burger's minimum average total cost (ATC) is $3.75 and that its minimum average variable cost (AVC) is $2.50. Assume there are no barriers to entry into or exit from the food-truck market. What is the shut down price for Chuck Diesel Burger in the short run?

where P = AVC, so $2.50

finding profit on a graph

where P > ATC