Types of Profit
What are explicit and implicit costs?
Explicit costs: typical business expenses (land, labor, capital)
Implicit costs: Income the entrepreneur gives up to take on their current endeavor
What is profit determination?
As long as total revenue is greater than total cost, firms are earning a profit
What are the 2 rules of the Profit Maximization Rule?
- Firms are assured of maximum profit if they produce where marginal revenue is equal to marginal cost
- By following MR=MC, firms also minimize losses
When a company experiences loss, it needs to consider 2 things. What are those 2 things?
Staying open and continue at a loss, or shut down and minimize losses.
What is perfect competition?
A kind of market in which the numbers of buyers and sellers is very large
What is the Accounting Profit Formula?
Total Revenue: Price x Quantity
Total Cost (explicit costs)= fixed costs + variable costs
Accounting Profit: Total revenue - explicit costs
What do rational firms use?
Marginal Analysis
When MC=MR, what is the correlation when TR > TC? TR=TC? TR < TC?
- The firm earns an economic profit
- The firm breaks even; and earns a normal
- The firm earns an economic loss
what is the definition of the short-run rule?
Shut Down Rule (TR < VC): the total revenue must cover its variable costs. If TR < VC then the firm should shut down.
What are the advantages and disadvantages of perfect competition?
Advantages: Lower prices for consumers and increased efficiency through iinnovation
Disadvantages: Lack of product differentiation and potential market instability
What is the Economic Profit Formula?
Whatever the total revenue is
How do you calculate marginal revenue (MR) and cost (MC)?
Marginal Revenue: change in total revenue/change in quantity
Marginal cost: Change in total cost/change in quantity
What is MR?
Marginal Revenue: the increase in revenue that results from the sale of one additional unit of output
What are 2 obstacles that prevent new competitions from entering?
- patents and copyrights
- brand identity
How does the perfect competition affect the economy?
Positive economic profits will attract competition as other firms enter the market
What is Normal profit?
Normal Profit: reward to the entrepreneur, meaning the firm earns enough to cover implicit and explicit costs. (Out-of-pocket costs and foregone income)
What is the profit maximization rule?
MR=MC
What is MC?
Marginal cost: The change in total cost that comes with each additional unit produced
What are 2 obstacles that prevent new competitions from entering?
- Government Restrictions
- Start-up costs
When does a perfect competition occur?
Occurs when there are many sellers
What is accounting Profit? Economic Profit?
Accounting Profit: The net income or total revenue
Economic Profit: The money that is earned after taking out implicit and explicit costs
What is Profit Maximization?
To maximize profit, firms will continue to produce as long as the marginal revenue earned from an additional product is greater than or equal to the marginal cost of that additional product.
What happens when MR < MC? When MR > MC? When MR=MC?
- The company should produce less
- The company should produce more
- The company maximized product
How do you know if firms will enter or exit in the long run?
An increase in demand will create economic profit in the short run and induce entry in the long run
What is the formula for perfect competition?
P=MC