Cato Sluyts
Introduc)on to economics B
slide summaries
Chapter 6: firms in compe77ve markets, part 1
• The goal of firms is to maximize profit, which equals total revenue minus total cost.
• Some costs are explicit while others are implicit.
• When analyzing a firm’s behavior, it is important to include all the opportunity costs
of produc7on.
• A firm’s costs reflect its produc7on process.
• A typical firm’s produc)on func)on gets flaHer as the quan7ty of input increases,
displaying the property of diminishing marginal product.
• A firm’s total costs are divided between fixed and variable costs. Fixed costs do not
change when the firm alters the quan7ty of output produced; variable costs do
change as the firm alters quan7ty of output produced.
• Average total cost is total cost divided by the quan7ty of output.
• Marginal cost is the amount by which total cost would rise if output were increased
by one unit.
• The marginal cost eventually rises with the quan7ty of output.
• Average cost first falls as output increases and then rises.
• The average total cost curve is U-shaped.
• The marginal cost curve always crosses the average total cost curve at its minimum.
• A firm’s costs oMen depend on the 7me horizon being considered.
• In par7cular, many costs are fixed in the short run but variable in the long run.
• Constant returns to scale: when long run ATC stays the same as the quan7ty of
output changes
• Economies of scale: when long run ATC falls as the quan7ty of output increases
• Diseconomies of scale: when long run ATC rises as the quan7ty of output increases
Chapter 6: firms in compe77ve markets, part 2
• Because a compe77ve firm is a price taker, its revenue is propor7onal to the amount
of output it produces: TRi = P x qi
• The price of the good equals both the firm’s average revenue and its marginal
revenue: P = ARi = MRi
• To maximize profit, a firm chooses the quan7ty of output such that marginal revenue
equals marginal cost, maximum profit: qi for which MRi = MCi.
• For firms in compe))ve market, this is also the quan7ty at which price equals
marginal cost: maximum profit: qi for which p = MCi.
• Therefore, the firm’s marginal cost curve is its supply curve that lies:
above AVC for the short-run supply curve
above ATC for the long-run supply curve.
• In the short run, when a firm cannot recover its fixed costs, the firm will choose to
shut down temporarily if the price of the good is less than average variable cost
(P < AVC).
• In the long run, when the firm can recover both fixed and variable costs, firm will exit
if the price is less than average total cost (P < ATC).
Introduc)on to economics B
slide summaries
Chapter 6: firms in compe77ve markets, part 1
• The goal of firms is to maximize profit, which equals total revenue minus total cost.
• Some costs are explicit while others are implicit.
• When analyzing a firm’s behavior, it is important to include all the opportunity costs
of produc7on.
• A firm’s costs reflect its produc7on process.
• A typical firm’s produc)on func)on gets flaHer as the quan7ty of input increases,
displaying the property of diminishing marginal product.
• A firm’s total costs are divided between fixed and variable costs. Fixed costs do not
change when the firm alters the quan7ty of output produced; variable costs do
change as the firm alters quan7ty of output produced.
• Average total cost is total cost divided by the quan7ty of output.
• Marginal cost is the amount by which total cost would rise if output were increased
by one unit.
• The marginal cost eventually rises with the quan7ty of output.
• Average cost first falls as output increases and then rises.
• The average total cost curve is U-shaped.
• The marginal cost curve always crosses the average total cost curve at its minimum.
• A firm’s costs oMen depend on the 7me horizon being considered.
• In par7cular, many costs are fixed in the short run but variable in the long run.
• Constant returns to scale: when long run ATC stays the same as the quan7ty of
output changes
• Economies of scale: when long run ATC falls as the quan7ty of output increases
• Diseconomies of scale: when long run ATC rises as the quan7ty of output increases
Chapter 6: firms in compe77ve markets, part 2
• Because a compe77ve firm is a price taker, its revenue is propor7onal to the amount
of output it produces: TRi = P x qi
• The price of the good equals both the firm’s average revenue and its marginal
revenue: P = ARi = MRi
• To maximize profit, a firm chooses the quan7ty of output such that marginal revenue
equals marginal cost, maximum profit: qi for which MRi = MCi.
• For firms in compe))ve market, this is also the quan7ty at which price equals
marginal cost: maximum profit: qi for which p = MCi.
• Therefore, the firm’s marginal cost curve is its supply curve that lies:
above AVC for the short-run supply curve
above ATC for the long-run supply curve.
• In the short run, when a firm cannot recover its fixed costs, the firm will choose to
shut down temporarily if the price of the good is less than average variable cost
(P < AVC).
• In the long run, when the firm can recover both fixed and variable costs, firm will exit
if the price is less than average total cost (P < ATC).
