Economics Investment Chapter 3

8/17/2019 Economics Investment Chapter 3

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CHAPTER 3DEMAND AND SUPPLY ANALYSIS: THE

FIRMPresenter’s namePresenter’s titledd Mont !!!!


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"# INTR$DUCTI$N

• Demand %or &oods'! indi(id)als

Teor! o%te

Cons)mer

• S)**l! o% &oods andser(i+es '! %irms

Teor! o%te Firm

Co*!ri&t , -."/ CFA Instit)te -


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-# $01ECTI2ES $F THE FIRM

Profit 45 in &eneral terms is total re(en)e 4TR 5 less total +ost 4TC 5:

Accounting profit is te net in+ome6 as determined )sin& a++o)ntin&*rin+i*les:

Te +osts in tis +ase are onl! e7*li+it +osts#

Economic profit is

E+onomi+ *ro%it 8 Total re(en)e 9 Total e+onomi+ +ost6

ere total e+onomi+ +osts in+l)de te im*li+it o**ort)nit! +osts#

Co*!ri&t , -."/ CFA Instit)te 3


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N$RMAL PR$FIT AND EC$N$MIC PR$FIT

Normal profit is te a++o)ntin& *ro%it s)+ tat 'ot e7*li+it and im*li+it +ostsare +o(ered:

Normal *ro%it 8 A++o)ntin& *ro%it 9 E+onomi+ *ro%it

; Also .. 8 €500

E+onomi+ *ro%it €"6... 9 >.. 9 /.. 8 €100

Normal *ro%it €>.. 9 ".. 8 €400

Co*!ri&t , -."/ CFA Instit)te /


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EC$N$MIC RENT

Economic rent is te i& *ro%it attri')ted to a %i7ed6 limited s)**l!#

Q"

Demand-

Demand"

P -

S)**l!

P "

Co*!ri&t , -."/ CFA Instit)te >


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3# ANALYSIS $F RE2ENUE6 C$STS6 AND PR$FITS

Total revenue 4TR 5 is te total o% re+ei*ts %rom te sale o% a &ood or ser(i+e#

Total re(en)e 8 Pri+e ? @)antit!

Average revenue 4 AR 5 is te matemati+al a(era&e o% re(en)e *er )nit sold#

A(era&e re(en)e 8

Marginal revenue 4MR 5 is te re(en)e on te ne7t )nit sold#

Mar&inal re(en)e 8

Co*!ri&t , -."/ CFA Instit)te


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CALCULATINB TR 6 AR 6 AND MR

Q P TR AR MR

".. "#-> "-> "#-> "#3.

-.. "#3. -. "#3. "#33

3.. "#33 3 "#33 "#3>/.. "#3> >/. "#3> "#3

>.. "#3 > "#3 "#3G


"#"

"#-.

"#-/

"#-

"#3-

"#3

"#/.

A(era&e re(en)e

Mar&inal re(en)e

Quantity

Revenue per nit

G Ass)min& "#3 %or)antities 'e!ond >..


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THE PR$DUCTI$N FUNCTI$N

Te factors of pro!uction are in*)ts to te *rod)+tion o% &oods or ser(i+es6in+l)din& land6 la'or6 +a*ital6 and materials#

Te pro!uction function is te relationsi* 'eteen te )antit! *rod)+edand te %a+tors o% *rod)+tion: +a*ital 4K 5 and la'or 4L5

Q 8 f 4K 6L5



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C$STS $F PR$DUCTI$N

Total cost 4TC 5 is te s)m o% all +osts o% *rod)+in& &oods or ser(i+es#

Total fi"e! cost 4TFC 5 is te s)m o% all +osts tat do not +an&e it te le(elo% *rod)+tion#

; A #uasi$fi"e! cost is a +ost tat is %i7ed %or a s*e+i%i+ ran&e o% *rod)+tion')t tat +an&es at di%%erent le(els o% *rod)+tion#

Total variable cost 4TVC 5 is te s)m o% all +osts tat +an&e it te le(el o%*rod)+tion#

Average fi"e! cost 4 AFC 5 is te total %i7ed +ost di(ided '! te )antit!*rod)+ed#

Average variable cost 4 AVC 5 is te total (aria'le +ost di(ided '! te )antit!

*rod)+ed#

Average total cost 4 ATC 5 is te total +ost di(ided '! te )antit! *rod)+ed#

Marginal cost 4MC 5 is te +an&e in total +ost %or one more )nit *rod)+ed#



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EAMPLE

S)**ose tat te %i7ed +osts o%*rod)+tion are >. and tat te(aria'le +ost *er )nit 'e&ins at -/*er )nit6 de+lines to "-6 and tenin+reases to ">#

Te a(era&e %i7ed +ost de+linestro)&o)t#

Te a(era&e (aria'le +ost de+linesand ten in+reases#

Te a(era&e total +ost de+lines andten in+reases#

Te mar&inal +ost de+lines and tenin+reases#

Co*!ri&t , -."/ CFA Instit)te ".

.

".

-.

3.

/.

>.

.

.

. A(era&e %i7ed +ost

A(era&e (aria'le +ost

A(era&e total +ost

Mar&inal +ost

Quantity of %utput

&ost


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0REAJE2EN AND SHUTD$KN

Te brea'even point is te )antit! *rod)+ed at i+ all +osts are +o(ered#

; Under *er%e+t +om*etition6 te 'rea


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EC$N$MIES AND DISEC$N$MIES $F SCALE

Te s(ort$run average total cost curve 4SRATC5 is determined '! te %irm’s%i7ed;in*)t +onstraint#

Te long$run average total cost curve 4LRATC5 is +om*osed o% teminim)ms o% te *ossi'le sort;r)n a(era&e total +ost +)r(es#

Economies of scale 4also


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PR$FIT;MAIMIINB $UTPUT

Pro%it is ma7imied en te di%%eren+e 'eteen total re(en)e and total +ost isma7imied6 i+ is also te *oint at i+ mar&inal re(en)e is e)al tomar&inal +ost#

Determinin& *ro%it;ma7imiin& o)t*)t re)ires

"# %ore+astin& te re(en)es and +osts in order to estimate te *rod)+tion le(el

at i+ te di%%eren+e is ma7imied#-# +om*)tin& te +an&e in total re(en)e *er )nit and te +an&e in total +ost

*er )nit and *rod)+e to te *oint at i+ te! are e)al#

3# +om*arin& te estimated +ost *er )nit o% in*)t it te +ontri')tion mar&in*er )nit#

Co*!ri&t , -."/ CFA Instit)te "3


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PR$FIT MAIMIATI$N: SH$RT AND L$NB RUN

In te sort r)n6 ito)t e+onomies o% s+ale6 te %irm earns a normal *ro%it# In te lon& r)n6 alto)& te %irm is a'le to e7*loit e+onomies o% s+ale6 te %irm

earns an e+onomi+ *ro%it#

; I% te mar


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L$NB;RUN INDUSTRY SUPPLY

Te long$run supply curve %or an ind)str! is te relationsi* 'eteen)antities s)**lied and *ri+es )nder *er%e+t +om*etition#

An increasing$cost in!ustry is one in i+ te *ri+es and +osts in+rease %orin+reased o)t*)t#

; Lon&;r)n s)**l! +)r(e is )*ard slo*in

A !ecreasing$cost in!ustry is one in i+ te *ri+es and +osts de+rease %orin+reased o)t*)t#

; Lon&;r)n s)**l! +)r(e is donard slo*in&

A constant$cost in!ustry is one in i+ te *ri+es and +osts remain tesame %or in+reased le(els o% o)t*)t#

; Lon&;r)n s)**l! +)r(e is %lat#

Co*!ri&t , -."/ CFA Instit)te ">


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EAMPLE: PR$DUCTI2ITY $F LA0$R

*abor Total Pro!uct Marginal Pro!uct Average Pro!uct

. .

" ". ". 9 . 8 ". "." 8 ".#.

- " " 9 ". 8 "- 8 #>

3 - - 9 " 8 -3 8 #.

/ 3/ 3/ 9 - 8 3// 8 #>

> /. /. 9 3/ 8 /.> 8 #.

Co*!ri&t , -."/ CFA Instit)te "


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DIMINISHINB MARBINAL RETURNS

Te marginal pro!uct 4MP 5 is te +an&e in te total *rod)+t %rom a one;)nit+an&e in te in*)t#

+ncreasing marginal returns e7ist en te mar&inal *rod)+t o% an in*)tin+reases en )sin& more o% te in*)t#

,iminis(ing marginal returns e7ist en te mar&inal *rod)+t o% an in*)t

de+reases en )sin& more o% te in*)t#; Te la) of !iminis(ing returns is te la tat addin& anoter )nit o% in*)t

ill res)lt in less mar&inal *rod)+t tan te *re(io)s )nit o% in*)t#

Te marginal revenue pro!uct 4MRP 5 is te +an&e in total re(en)e %rom aone;)nit +an&e in te in*)t#



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PR$FIT;MAIMIINB LE2ELS $F $UTPUT

I% tere is a sin&le in*)t6 te *ro%it;ma7imiin& le(el o% o)t*)t is te *oint ati+

Mar&inal re(en)e *rod)+t 8 Pri+e o% te in*)t

I% tere is more tan one in*)t6 te *ro%it;ma7imiin& le(el o% in*)ts is te *oint

at i+ te mar&inal *rod)+ts o% te in*)ts6 relati(e to teir res*e+ti(e *ri+es6are te same:

8 Q 8

Te o*timal le(el o% ea+ in*)t is te *oint at i+ te ratio o% te mar&inal*rod)+t to its on *ri+e is e)al to "#



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EAMPLE: $PTIMAL LE2EL $F INPUTS

Input 1 Input 2

UnitsTotal

Prod)+tMar&inalProd)+t

Mar&inal

Re(en)eProd)+t

MRP Pri+e o% In*)t

Unitso%

TotalProd)+t

Mar&inalProd)+t

Mar&inal

Re(en)eProd)+t

MRP Pri+e o% In*)t

. . . .

" ". ". -> "#> " -. -. >.#.. >#..

- " -3 "#/" - 3> "> 3#>. 3#>

3 - -. "#-> 3 /. > "-#>. "#->/ 3/ " "#. / /3 3 #>. .#>

> /. "> .#/ > // " -#>. .#->

Co*!ri&t , -."/ CFA Instit)te -.

S)**ose tat te +ost *er )nit o% In*)t " is €" and te +ost *er )nit o% In*)t - is€".# I% te +ost o% te *rod)+t is €-#>. and te total *rod)+ts are as 'elo6 atare te o*timal le(els o% In*)t " and In*)t -

Te o*timal le(els are %o)r )nits o% In*)t " and tree )nits o% In*)t -#Pro%it 8 €-#> 43/ = /.5 9 4/ ? €"5 9 43 ? €".5 8 €"> 9 / 9 3. 8 €"


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SUMMARY

Te *ro%it o% +on+ern in te teor! o% te %irm is e+onomi+ *ro%it6 i++onsiders not onl! e7*li+it +osts ')t also im*li+it +osts#

I% a %irm is a'le to maintain a +om*arati(e ad(anta&e 4s)+ as e+onomies o%s+ale56 it +an earn e+onomi+ *ro%it# In a mar


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SUMMARY

A %irm s)ts don in te sort r)n i% total re(en)e does not +o(er (aria'le +ostin %)ll#

A %irm’s *rod)+tion %)n+tion de%ines te relationsi* 'eteen total *rod)+t andin*)ts6 ereas a(era&e *rod)+t and mar&inal *rod)+t are

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Economics Investment Chapter 3