Micro Economics
CH 13
Profit:
TR: Amount a firm receives for the sale of its output (P * Q)
TC: Market value of the inputs a firm uses in production (FC + VC)
Profit = TR – TC
We assume that a firm’s goal is to maximize profit.
Costs:
> Costs as opportunity costs
The cost of something is what you give up to get it
Firm’s cost of production must include all of the opportunity costs of inputs
used in production.
Total opportunity costs include both implicit and explicit costs.
Explicit costs: Input costs that require an outlay of money by the
firm e.g., paying wages to workers.
implicit costs: Input costs that do not require an outlay of money by the
firm e.g., the opportunity cost of the owner’s time.
The distinction between explicit and implicit costs highlights an important
difference between how economists and accountants analyze a business.
,Economist Vs Accountant:
> The cost of capital as an opportunity cost.
Ex: Muhammad uses $300,000 of his savings to start his firm. It was in a
savings account paying 5% interest. If he had left it in the account, he
would have earned $15,000 a year in interest income.
- Economists include this opportunity cost. An accountant would not count
this $15,000 as part of his business costs.
Economists and Accountants measure costs differently, consequently they
measure profits differently.
E profit: TR -TC (both explicit and implicit costs)
A profit: TR - total explicit cost
Implicit costs are Not shown as cost by an accountant thus accounting
profit ignores implicit costs, so it’s higher than economic profit.
From an economists’ perspective, for a business to be profitable, total
revenue must cover all opportunity costs (implicit and explicit)
Ex 2: The equilibrium rent on office space has just increased by
$500/month. Compare the effects on accounting profit and economic profit
if:
a. you rent your office space.
- Explicit costs increase $500/month. Accounting profit & economic profit
each fall $500/month.
b. you own your office space
Explicit costs do not change, so accounting profit does not change.
Implicit costs increase $500/month (opp. cost of using your space instead
of renting it), so economic profit falls by $500/month.
,“ Economists include all opportunity costs when analyzing a firm,
whereas accountants measure only explicit costs. Therefore,
economic profit is smaller than accounting profit “
, Production function:
The production function: shows the relationship between the quantity of
inputs used to produce a good and the quantity of output of that good.
It can be represented by a table, equation, or graph.
• Example 1:
– Farmer Youssef grows wheat.
– He has 5 acres of land (Fixed).
– He can hire as many workers as he wants.
– Thus, output can be increased by increasing labor only. (Realistic assumption only in the short run)
CH 13
Profit:
TR: Amount a firm receives for the sale of its output (P * Q)
TC: Market value of the inputs a firm uses in production (FC + VC)
Profit = TR – TC
We assume that a firm’s goal is to maximize profit.
Costs:
> Costs as opportunity costs
The cost of something is what you give up to get it
Firm’s cost of production must include all of the opportunity costs of inputs
used in production.
Total opportunity costs include both implicit and explicit costs.
Explicit costs: Input costs that require an outlay of money by the
firm e.g., paying wages to workers.
implicit costs: Input costs that do not require an outlay of money by the
firm e.g., the opportunity cost of the owner’s time.
The distinction between explicit and implicit costs highlights an important
difference between how economists and accountants analyze a business.
,Economist Vs Accountant:
> The cost of capital as an opportunity cost.
Ex: Muhammad uses $300,000 of his savings to start his firm. It was in a
savings account paying 5% interest. If he had left it in the account, he
would have earned $15,000 a year in interest income.
- Economists include this opportunity cost. An accountant would not count
this $15,000 as part of his business costs.
Economists and Accountants measure costs differently, consequently they
measure profits differently.
E profit: TR -TC (both explicit and implicit costs)
A profit: TR - total explicit cost
Implicit costs are Not shown as cost by an accountant thus accounting
profit ignores implicit costs, so it’s higher than economic profit.
From an economists’ perspective, for a business to be profitable, total
revenue must cover all opportunity costs (implicit and explicit)
Ex 2: The equilibrium rent on office space has just increased by
$500/month. Compare the effects on accounting profit and economic profit
if:
a. you rent your office space.
- Explicit costs increase $500/month. Accounting profit & economic profit
each fall $500/month.
b. you own your office space
Explicit costs do not change, so accounting profit does not change.
Implicit costs increase $500/month (opp. cost of using your space instead
of renting it), so economic profit falls by $500/month.
,“ Economists include all opportunity costs when analyzing a firm,
whereas accountants measure only explicit costs. Therefore,
economic profit is smaller than accounting profit “
, Production function:
The production function: shows the relationship between the quantity of
inputs used to produce a good and the quantity of output of that good.
It can be represented by a table, equation, or graph.
• Example 1:
– Farmer Youssef grows wheat.
– He has 5 acres of land (Fixed).
– He can hire as many workers as he wants.
– Thus, output can be increased by increasing labor only. (Realistic assumption only in the short run)
