Theory of the firm
-
Upload
raymond-lin -
Category
Technology
-
view
1.382 -
download
1
description
Transcript of Theory of the firm
![Page 1: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/1.jpg)
Section 2.3 HL
Theory of the Firm
![Page 2: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/2.jpg)
2.3 A Tale of Two Firms
Apple is currently the most popular and well loved firm in the US while JAL, to the dismay of the Japanese, recently declared itself bankrupt with 2.3 Trillion Yen in debt.
How can one firm be so successful while fail so spectacularly?
![Page 3: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/3.jpg)
2.3 A Tale of Two Firms and Theory of the Firm
What advice could an economist give Apple to help it stay so successful and what advice could they give JAL so that it once again becomes the most successful airline in Asia.
![Page 4: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/4.jpg)
How should the firm use
resources to make a profit?
How should the firm reduce costs, be
efficient and maximize profits?
What is the best price to
obtain the most revenue?
How many units should the firm produce to make the most
revenue?
How should the firm plan for the future in
terms of price and quantity?
What are the advantages and
risks of the firms market
environment?
How can the firm respond to
the business cycle?
Crucial Questions All Firm Face
![Page 5: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/5.jpg)
Theories about a firm’s behavior in the market place, the nature of that market place and how they produce
and price their goods.
Cost Theory
Revenue Theory
Profit Theory
Theory of the Firm Defined
![Page 6: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/6.jpg)
Theory of the Firm The Goal
► Provide advice
► about the following:
► The best price
► The best output
► The most profit
► To breakeven price
► The shutdown price
![Page 7: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/7.jpg)
Theory of the Firm
=Profit
-Fixed Costs Variable Costs
TRQuantity PriceX
![Page 8: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/8.jpg)
Click icon to add picture
Cost Theory
![Page 9: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/9.jpg)
Types of Costs: Fixed and Variable Costs
Fixed Costs
Variable Costs
![Page 10: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/10.jpg)
Product
Fixed Costs
Variable Costs
Costs and Output (Product)
Variable Costs (VC)are the focus as Fixed Costs (FC)cannot change in the short term.
![Page 11: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/11.jpg)
Total Product (TP)= total
output of a firm
Average Product (AP) = TP/V (Units of the
Variable Factor)
Marginal Product (MP) = Change
in TP/Change in V (Units of the
Variable Factor)
Ways to Measure Output
![Page 12: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/12.jpg)
![Page 13: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/13.jpg)
The Total Product Curve
![Page 14: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/14.jpg)
Average and Marginal Product Curves
![Page 15: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/15.jpg)
As extra units of a VF are added to a given quantity of a FF, the output per unit of the VF will
eventually diminish
Diminishing Average Returns
![Page 16: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/16.jpg)
As extra units of a VF are added to a given quantity of a FF, the output from
each additional unit of the VF will eventually diminish.
Diminishing Marginal Returns
![Page 17: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/17.jpg)
Total Costs (TC) = total cost to produce a certain output. TC =
TFC + TVC
Total Variable Costs (TVC) = total cost of the variable assets that a firm uses in a
given period of time.
Total Fixed Costs (TFC) = total cost of fixed assets
used in a given time
period.
![Page 18: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/18.jpg)
Tota
l Costs
Total Fixed Costs (TFC)
Total Variable
Costs (TVC)
Total Costs
TC
![Page 19: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/19.jpg)
Avera
ge C
osts
Average Fixed Costs
(AFC)
Average Variable
Costs (AVC)
Average Total Costs
(ATC)
![Page 20: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/20.jpg)
Marg
inal C
osts
Marginal Cost (MC) = increase in
TC of producing an extra unit of
output
![Page 21: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/21.jpg)
TFC, TVC and TC
![Page 22: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/22.jpg)
Cost Curves
![Page 23: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/23.jpg)
LRAC A firm altering all its factors to meet increasing demand
![Page 24: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/24.jpg)
Economies of scale LRAC as Output
constant
Diseconomies of scale
LRAC as Output constant
Constant returns to scale
LRAC is constant as Output
Economies and Diseconomies of Scale
![Page 25: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/25.jpg)
Economies and Diseconomies of Scale
![Page 26: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/26.jpg)
Economies of Scale
Economies of Scale
Specialization
Bulk Buying of Inputs
Financial Savings
Transport Savings
Technology
Advertising and
promotion
![Page 27: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/27.jpg)
Economies of Scale
Diseconomies of Scale
Control and Communicati
on
Alienation/work
satisfaction
![Page 28: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/28.jpg)
Click icon to add pictureRevenue Theory
![Page 29: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/29.jpg)
Total Revenue
Quantity Price
Total Revenu
e
X
=
![Page 30: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/30.jpg)
Total Revenue
Quantity Price
Total Revenu
e
X
=
![Page 31: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/31.jpg)
Marginal Revenue
Change in
Revenue
Change in
Quantity
Marginal Revenue
÷
=
![Page 32: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/32.jpg)
Example 1 Demand is perfectly elastic PED = Infinity
Revenue Curves
Price ($)
Demand (q)
TR AR MR
5 1 5 5 5
5 2 10 5 5
5 3 15 5 5
5 4 20 5 5
5 5 25 5 5
5 6 30 5 5
5 7 35 5 5
![Page 33: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/33.jpg)
Revenue Curves: Perfectly Elastic Demand
5
Price
Output
D=AR=MR
![Page 34: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/34.jpg)
Revenue Curves for Normal Demand Curves
![Page 35: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/35.jpg)
Click icon to add picture
Profit Theory
![Page 36: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/36.jpg)
Accounting Profit
Total Revenue
Debit Total Fixed Costs
Debit Total Variable
CostsProfit
![Page 37: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/37.jpg)
Economic Profit
Total Revenue
Debit Total Fixed Costs
Debit Total Variable
Costs
DebitOpportunity
CostsProfit
![Page 38: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/38.jpg)
Firm A Firm B Firm C
TR 200,000 200,000 200,000
TFC 40,000 40,000 40,000
TVC 80,000 100,000 120,000
Opportunity Cost 60,000 60,000 60,000
TC 180,000 200000 220,000
Profit and Loss
Which firm is making a Profit, which is making and Abnormal Profit and which is making a loss?
![Page 39: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/39.jpg)
Firm A Firm B Firm C
TR 200,000 200,000 200,000
TFC 40,000 40,000 40,000
TVC 80,000 100,000 120,000
Opportunity Cost 60,000 60,000 60,000
TC 180,000 200000 220,000
Profit and Loss
Abnormal Profit Normal Profit Loss
![Page 40: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/40.jpg)
Click icon to add picture
Firm X Firm Y Firm Z
TR 80,000 120,000 150,000
TFC (including OC)
100,000 100,000 100,000
TVC 100,000 120,000 140,000
TC 200,000 220,000 240,000
Loss 120,000 100,000 90,000
What advice would you give these firms?
Shut Down Price and the Break Even Price
![Page 41: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/41.jpg)
Firm X Firm Y Firm Z
TR 80,000 120,000 150,000
TFC (in OC) 100,000 100,000 100,000
TVC 100,000 120,000 140,000
TC 200,000 220,000 240,000
Loss 120,000 100,000 90,000
Firm X should shut down as TR <TVC and TFCFirm Y should continue production as TR >TVC.Firm Z should continue to produce as TR >TVC& part of its TFC
![Page 42: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/42.jpg)
Shut Down
Price = AVC
Break Even
Price = ATC
Determining the Shut Down Price and the Break Even Price
![Page 43: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/43.jpg)
Shut Down Price
Break Even Price = P1 = ATC
![Page 44: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/44.jpg)
When MR > MC then a firm
should increase production until
MC = MR
Profit Maximizing Level of Output
![Page 45: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/45.jpg)
Profit Maximizing Level of Output with Perfectly Elastic Demand
![Page 46: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/46.jpg)
Profit Maximizing Level of Output with Perfectly Elastic Demand
![Page 47: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/47.jpg)
Profit Maximizing Level of Output with Normal Demand
![Page 48: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/48.jpg)
Profit Maximizing Level of Output with Normal Demand
![Page 49: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/49.jpg)
The profit per unit of output must be the difference
between the AR and the AC.
Therefore P = AR at q – AC at q X
Quantity (q)
Profit Maximizing Level of Output with Normal Demand
![Page 50: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/50.jpg)
Normal Profit Normal Demand
![Page 51: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/51.jpg)
Abnormal Profit Normal Demand
![Page 52: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/52.jpg)
Loss Normal Demand
![Page 53: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/53.jpg)
Is it alw
ays a
bout p
rofit?
Revenue and Sales maximization• Strategic =
increase market share in SR.
• Ignorance
Maximizing Employment • Large
workforce = Success
Environment AimsIncur added costs to be environmentally sustainable.
Satisficing • Keep
shareholders satisfied with performance
![Page 54: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/54.jpg)
Profit, Sales and Revenue Maximization?
![Page 55: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/55.jpg)
Profit, Sales and Revenue Maximization?
![Page 56: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/56.jpg)
Profit, Sales and Revenue Maximization?
![Page 57: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/57.jpg)
Click icon to add picture
Price Discrimination
![Page 58: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/58.jpg)
Definition
Price Discrimination
• When firms actively adjust prices according to the willingness/ability of different consumers to pay.
![Page 59: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/59.jpg)
Types of Price Discrimination
First Degree
• charge whatever the market will bear e.g. auction.
Second Degree
• discount for quantity purchases
Third Degree
• market separated into distinct groups
![Page 60: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/60.jpg)
Third Degree Discrimination
Time•peak and off peak toll roads
Age•seniors, adults and children
Type •domestic and industrial uses of electricity
Income•Means tested government services
Location•books in Australia and US
![Page 61: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/61.jpg)
Reasons for Price
Discrimination
Increase profits
Increase output and gain from economies
of scale
Gain market
share by predatory
pricing
Build brand loyalty
Promote goodwill
Achieve fairness
![Page 62: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/62.jpg)
Pre-conditions for Price Discrimination
Different market
segments identifiable
Firm have market power
Arbitrage can be limited
![Page 63: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/63.jpg)
Price Discrimination ExampleTotal Ticket Sales
![Page 64: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/64.jpg)
Price Discrimination ExampleAdult Tickets
![Page 65: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/65.jpg)
Price Discrimination ExampleAdult Tickets
![Page 66: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/66.jpg)
Price Discrimination Example
MC = MR
600 tickets
at $5
TR = $3000
Adults are
less price
sensitive
therefore
the MR
Curve is
kinked.
Charging
Adults $9
yields
$1800
(200 x $9)
Charging
Students $7
yields
$2800
(400 x $7)
New TR=
$3600
![Page 67: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/67.jpg)
Click icon to add picture
Efficiency
![Page 68: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/68.jpg)
Productive Efficiency and Allocative Efficiency
Productive Efficiency is
achieved when goods
are produced at the lowest
possible cost per unit., i.e.
Minimum Average
Cost
Allocative Efficiency is
achieved when
resources are not
wasted i.e. Supply =
Demand and Price = MC
![Page 69: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/69.jpg)
Productive Efficiency: Resources are not wasted
![Page 70: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/70.jpg)
Allocative Efficiency / Socially Optimum Level of Output
![Page 71: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/71.jpg)
Perfect Competition Versus Monopoly
![Page 72: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/72.jpg)
Perfect Competition Versus Monopoly
![Page 73: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/73.jpg)
Monopolies
Pros of Monopolies
Cons of Monopolies
![Page 74: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/74.jpg)
Competition & the Theory of Contestable Markets
![Page 75: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/75.jpg)
Click icon to add picture
Efficiency
![Page 76: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/76.jpg)
Traditional Theories of Market Structure and Competition
Number of Firms
in Marke
t
Degree of Competiti
onInverse Relationship
![Page 77: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/77.jpg)
Theory of Contestable Markets
Barriers to
Entry of
Potential
Rivals
Actual Degree of
Competitio
nInverse Relationship
![Page 78: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/78.jpg)
Theory of Contestable Markets
If market is contestable (low barriers to
entry),
firms
will perceive
a threat of competition.
Accordingly
firms will
behave
competitivelyand
greater
efficiency and lowe
r prices will resul
t
![Page 79: Theory of the firm](https://reader035.fdocuments.us/reader035/viewer/2022062614/546388bcaf795908328b487d/html5/thumbnails/79.jpg)
Theory of Contestable Markets
Threat of
competition
influences price
and output of all firms
If cost of entry and exit is zero (perfectly
contestable market), firms will
challenge a firm that is
making abnormal profits and therefore that firm will keep
prices low.
In reality most firms
when entering a market will be faced
with sunk cost, i. e. costs that can not be
recouped by transferring
them to another
use.