Chapter 4 Firm Production, Cost, and Revenue Copyright © 2010 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

4-2 Chapter Outline Production Costs Revenue Profit and Profit Maximization

4-3 You Are Here

4-4 Basic Definitions Profit: The money that business makes: Revenue minus Cost Cost: the expense that must be incurred in order to produce goods for sale Revenue : the money that comes into the firm from the sale of their goods

4-5 Economic vs. Accounting Cost Economic Cost: All costs, both those that must be paid as well as those incurred in the form of forgone opportunities, of a business Accounting Cost: Only those costs that must be explicitly paid by the owner of a business

4-6 Production Production Function: a graph which shows how many resources we need to produce various amounts of output Cost Function: a graph which shows how much various amounts of production cost

4-7 Inputs to Production Fixed Inputs: resources that you cannot change Variable Inputs : resources that can be easily changed

4-8 Concepts in Production Division of Labor: workers divide up the tasks in such a way that each can build up a momentum and not have to switch jobs Diminishing Returns: the notion that there exists a point where the addition of resources increases production but does so at a decreasing rate

4-9 Figure 1 The Production Function Output Workers Production Function A B C D

4-10 A Numerical Example LaborTotal OutputExtra Output of the Group

4-11 Costs Fixed Costs: costs of production that we cannot change Variable Costs: costs of production that we can change

4-12 Figure 2 The Total Cost Function Output Total Cost Total Cost Function A B C D

4-13 Cost Concepts Marginal Cost: the addition to cost associated with one additional unit of output Average Total Cost: Total Cost/Output, the cost per unit of production Average Variable Cost: Total Variable Cost/Output, the average variable cost per unit of production Average Fixed Cost: Total Fixed Cost/Output, the average fixed cost per unit of production

4-14 Figure 3 Marginal Cost, Average Total, Average Variable, and Average Fixed Cost P Q MC ATC AVC AFC

4-15 Numerical Example OutputTVCTFCTCMC*ATCAVCAFC * MC is per 100

4-16 Revenue Marginal Revenue : additional revenue the firm receives from the sale of each unit

4-17 Figure 4 Setting the Price When There are Many Competitors Our Firm P Market for Memory P D S P* P*=Marginal Revenue

4-18 Figure 5 Marginal Revenue When there are No Competitors MR Market for Memory P D

4-19 Numerical Example For the Many Competitors Case QPTRMR* , , , , , , , , , ,00045 * MR is per 100

4-20 Numerical Example For the No Competitors Case QPTRMR* , , , , , , , , , ,000-20

4-21 Maximizing Profit We assume that firms wish to maximize profits

4-22 Market Forms Perfect Competition: a situation in a market where there are many firms producing the same good Monopoly: a situation in a market where there is only one firm producing the good

4-23 Rules of Production A firm should a) produce an amount such that Marginal Revenue equals Marginal Cost (MR=MC), unless b) the price is less than the average variable cost (P<AVC).

4-24 Numerical Example of Profit Maximization With Many Competitors QPTRTCMRMCProfit 04508,500-8, ,50011, , ,00012, , ,50013, ,00014, , ,50016, , ,00018, , ,50021, , ,00025, , ,50031, , ,00041, ,000

4-25 Numerical Example of Profit Maximization With No Competitors QPTRTCMRMCProfit 07508,500-8, ,00011, , ,00012, , ,00013, ,00014, , ,00016, , ,00018, , ,00021, , ,00025, , ,00031, , ,00041, ,000