Chapter 22The Firm: Cost and Output DeterminationDifference between short run and long run• Short run• At least one factor of production is held fixed.• Long run• All factors of production are variable.• Long run when all factors of production have changed.How firms produce output• Firms take resources and transform these resources into good or services.• This includes making, transporting, packaging, and selling the good. All of this transforms the raw resources into a final “output” or product.Diminishing marginal product• Law of Diminishing Marginal Product• After some point, successive equal-sized increases in a variable factor of production, added to fixed factors of production, will result in smaller increases inoutput. • Essentially, additional units of something, such as the addition of a worker at a company, yields smaller additional output than the previous unit, in thisexample a worker. Why is profit maximized where MC=MR?• When marginal profit is equal to marginal cost, the ideal quantity of the product has been produced without yielding any negative marginal revenue thereforeyou have produced the optimal amount of a product which will in return yield you the most profit. How specialization affects marginal product.• The ability to substitute allows for specialization and specialization allows for an increase in marginal productivity. • For example, say you open a restaurant. You can run the place by yourself, but hiring another worker, say a waiter, can increase marginal productivitybecause now you can concentrate on cooking the food while the waiter delivers the food. With each additional worker specializing in something else themarginal productivity increases until a certain point where the addition of a worker provides no marginal productivity. This is where you should stop hiring.Allowing specialization, having a cook, a waiter, a greeter, a bartender, all lead to an increase in marginal productivity. Different costs for the firm: Know how to calculate TFC. TVC, TC, MC, AFC, AVC, ATC. • Variable cost• Cost changes with the level of output.• Total Variable Cost= Variable Cost * Quantity• Fixed cost• Cost does not change with level of output. • Total Fixed Cost= Fixed Cost * Quantity• Total Cost= Total Fixed Cost + Total Variable Cost• Marginal Cost• Change in total cost when output increases by one unit.• ∆TC/∆Q• Average Fixed Cost• TFC/Q• Average Variable Cost • TVC/Q• Average Total Cost• TC/QHow is long run average total cost generated?• Long run average cost is typically U-shaped. It’s high in the beginning because of fixed costs and then rises at the end because of Marginal Cost. It isgenerated by a combination of Short-run average cost curves however. See picture below for visual representation.Economies of Scale, Constant Returns of Scale, Diseconomies of scale, Minimum efficient scale. • Economies of Scale• As output increases, there is a lower cost per unit. Results in a downward LAC• 3 Reasons for Economies of Scale• Specialization• Division of tabor• Dimensional Factor• Doubling output without doubling input• Improvements in productive equipment• Methods for mass production• Constant Returns of Scale• There is no change in the cost per unit when the output changes. Results in flat LAC• Diseconomies of scale• As output increases, there is a higher cost per unit. Results in an upward LAC• 3 Reasons for Diseconomies of scale• With increased output comes the need for a larger plant size, larger firm size, and most likely the need for more workers as well.• Because of this increase in size, layer of management and supervision are added.• Decrease in flexibilityChapter 23Perfect CompetitionDifference between short run conditions and long run conditions• As mentioned in Chapter 22, Short run conditions result when at least one factor of production is fixed, such as factory size. Long run conditions result fromthe change of all factors of production. Short run and long run have no time value associated with them. For example, when comparing something over a 5 or10 year period that doesn’t necessarily mean the long term. Long term simply means that all factors of production are variable. Difference between things that affect the market and things that affect individual firms• In perfect competition, there will be a traditional supply and demand curve for the MARKET. Where the two intersect is the price/quantity equilibrium. For anINDIVIDUAL firm however the demand is perfectly elastic(a straight line demand curve) for the product. There are so many buyers and sellers in a competitivemarket that the change of price above the demand price will yield absolutely no customers because the product can be bought else where rather easily. How much should a perfect competitor produce?• The optimal production level is where marginal revenue equals marginal cost.• It is also important to note that price takers(a perfectly competitive firm that must take the price of its product as given because the firm cannot influenceprice) sell every unit for the same price so their Price=Marginal Revenue.Short run profits and losses: calculate, find on graph.• Here is Austin’s step by step process to calculate profit or loss.• To find on the graph it is rather simple. Find where MR(which in the case of a perfectly competitive firm is the demand curve)=MC. From that intersection,locate the ATC curve. Compare where the demand(aka price) curve is in relation to the ATC curve. If the demand(price) curve is higher than ATC, the firm hasmade a profit. If the ATC curve is higher than the demand(price) curve, the firm has made a loss.Short run break even price and shut down point: what do they mean, where are they on a graph, describe them in words.• Short run break even price• Short run break even is essentially zero economic profit. The Total cost of making the product is equal to the revenue you are gaining from selling theproduct. It is the point on the graph where the demand curve intersects the ATC as well as the MC. • Shut down point• The shut down point is where the demand curve curve intersects the demand curve. The rule for staying open vs closing down is: if you can make moremarginal revenue(MR or P) than your variable costs,stay open. Supply curve for a perfect competitor firm• A Perfect competitor’s supply curve is essentially the Marginal Cost