Escolar Documentos
Profissional Documentos
Cultura Documentos
Profit Maximization Economists assume that firms pursue the highest profit given certain cost constraints. Therefore, they will produce at the output level which maximizes their profits.
Profit = Total Revenue (TR) Total Cost (TC) TR = P x q, where P is the market price and q stands for per firm output level.
The profit maximizing objective is applicable in both the short-run and long-run. In this chapter, we analyze the pricing behaviour of PRICE TAKERS (perfectly competitive firms). As firms take the market price (P) as given, they, individually, CANNOT affect it. P changes if and only if ALL firms take the same action collectively. In other words, there
is only 1 given P in this case. P is also the marginal revenue (MR) of firms.
= (TR) (TC)
TR = P x q, P q
(P) P
1 PP
1
(MR)
By Vincent Leung
by Vincent Leung
Now, we may plot the price line and MC curve together. $ Firm A MC
STEP 1
P
Arbitrarily pick up an output level q1. Will Firm A produce ? Will it produce MORE ? q1 A q1 Ans : YES, because at q1, P > MC. YES, because after q1, P is still > MC.
(variable) profit
STEP 2
q1
3 by Vincent Leung
A q2
STEP 3
(variable) profit
q2
Now, Firm A is producing at q*. Will it produce MORE ? A q* Ans : NO, because after q*, P < MC.
(variable) profit
STEP 4
by Vincent Leung
q*
P = MC
q* q*
P ($)
80 80 80 80 80
MC ($)
60 70 80 90 100
q (units)
500 600 700 800 900
5 by Vincent Leung
IF P increases
Good X $ MC
P1 P Q Q* Q1
by Vincent Leung
IF P decreases
Good X $ MC
P1 P Q Q1 Q*
by Vincent Leung
0 2 4 6 8 10
As firms produce until MC = P, the marginal cost schedule of a firm can be interpreted as its supply schedule in the production of a good.
It is because we can tell the quantity of the good the firm plans to produce from the marginal cost schedule given the price of the good.
MC = P
by Vincent Leung
MC = P
MC Good X
P ($) MC MC5 MC4 MC3 MC2 MC1 0 Q1 Q2 Q3 Q4 Q5 P ($) S = MC P5 = MC5 P4 = MC4 P3 = MC3 P2 = MC2 P1 = MC1 0 Q1 Q2 Q3 Q4 Q5 Q Q
Good X
by Vincent Leung