Microeconomics

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damea134
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227097
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Microeconomics
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2013-07-14 23:52:14
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Chapter 21
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Rents, Profits, and the Financial Environment of Business
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  1. Economic rent
    A payment for the use of any resource over and above its opportunity cost.

    Economic rent is payment to the owner of a resource in excess of its opportunity cost—that is, the minimum payment that would be necessary to call forth production of that amount (and quality) of the resource.

    Economic rent allocates resources to their highest-valued use. (Demand For Service)

    economic rent directs resources to the people who can use themmost efficiently.
  2. Firm
    A business organization that employs resources to produce goods or services for profit. A firm normally owns and operates at least one “plant” or facility in order to produce.

    A firm is an organization that brings together factors of production—labor,land, physical capital, human capital, and entrepreneurial skill—to produce aproduct or service that it hopes to sell at a profit.
  3. Entrepreneurs
    Entrepreneurs take the initiative in combining land, labor, and capital to produce a good or a service. Entrepreneurs are the ones who innovate in the form of new production and new products. The entrepreneur also decides whom to hire to manage the firm.

    period. Entrepreneurs are not paid contractual wages. They receive no reward specified in advance. The entrepreneurs make profits if there are any, for profits accrue to those who are willing to take risks. (Because the entrepreneur gets only what is left over after all expenses are paid, she or he is often referred to as a residual claimant. The entrepreneur lays claim to the residual—whatever is left.)
  4. proprietorship
    A business owned by one individual who makes the business decisions, receives all the profits, and is legally responsible for the debts of the firm.
  5. Advantages of Proprietorships.
    • 1. they are easy to form and to dissolve.
    • 2. all decision-making power resides with the sole proprietor.
    • 3. profit is taxed only once
  6. Disadvantages of Proprietorships.
    • 1. unlimited liability for the debts of the firm
    • 2. limited ability to raise funds, to expand the business or even simply to help it survive bad times
    • 3. They normally end with the death of the proprietor, which creates added uncertainty for prospective lenders or employees.
  7. Unlimited liability
    A legal concept whereby the personal assets of the owner of a firm can be seized to pay off the firm’s debts.
  8. Partnership
    A business owned by two or more joint owners, or partners, who share the responsibilities and the profits of the firm and are individually liable for all the debts of the partnership.
  9. Advantages of Partnerships.
    1. Easy to form.

    2. often help reduce the costs of monitoring job performance.

    3.permits more effective specialization in occupations in which, for legal or other reasons, the multiple talents required for success are unlikely to be uniform across individuals.

    4.the income of the partnership is treated as personal income and thus is subject only to personal taxation
  10. Disadvantages of Partnerships.
    • 1. the partners each have unlimited liability.
    • (personal assets of each partner are at risk due to debts incurred on behalf of the partnership by any of the partners)

    2. decision making is generally more costly in a partnership than in a proprietorship

    3. dissolution of the partnership
  11. Corporation
    A legal entity that may conduct business in its own name just as an individual does. The owners of a corporation, called shareholders,own shares of the firm’s profits and have the protection of limited liability.
  12. Limited liability
    A legal concept in which the responsibility, or liability, of the owners of a corporation is limited to the value of the shares in the firm that they own.
  13. Advantages of Corporations
    1. owners (the shareholders) have limited liability. (The liability of shareholders is limited to the value of their shares.)

    2. continues to exist even if one or more owners cease to be owners

    3. Corporations are well positioned to raise large sums of financial capital. (Share holders, Bonds, Loans)
  14. Disadvantages of Corporations.
    1. The chief disadvantage of the corporation is that corporate income is subject to double taxation (corporate taxation and taxation on dividends to share holders)

    2.Problems associated with the separation of ownership and control.
  15. Dividends
    Portion of a corporation’s profits paid to its owners (shareholders).
  16. Explicit
    costs Costs that business managers must take account of because they must be paid.Examples are wages, taxes, and rent.
  17. Accounting profit
    Total revenues minus total explicit costs.

    Accounting profit = total revenues - explicit costs
  18. Implicit costs
    Expenses that managers do not have to payout of pocket and hence normally do not explicitly calculate, such as the opportunity cost of factors of production that are owned.Examples are owner-provided capital and owner-provided labor.

    implicit costs include a normal rate of return on invested capital
  19. opportunity cost principle
    Firms are measured by what the resources (land, capital) currently used in producing a particular good or services could earn in other uses.
  20. Normal rate of return
    The amount that must be paid to an investor to induce investment in a business. Also known as the opportunity cost of capital.
  21. Opportunity cost of capital
    The normal rate of return, or the available return on the next-best alternative investment. Economists consider this a cost of production, and it is included in our cost examples.
  22. Economic profits
    1. Total revenues minus total opportunity costs of all inputs used, or the total of all implicit and explicit costs.

    2. income that entrepreneurs earn, over and above all costs including their own opportunity cost of time, plus the opportunity cost of the capital they have invested in their business.
  23. Economic profits Formula
    1. Economic profits = total revenues - total opportunity cost of all inputs used

    2. Economic profits = total revenues - (explicit + implicit costs)
  24. Interest
    The payment for current rather than future command over resources; the cost of obtaining credit.

    Interest is the price paid by debtors to creditors for the use of loanable funds.
  25. Financial capital
    Funds used to purchase physical capital goods, such as buildings and equipment, and patents and trademarks.
  26. Profit Maximization
    The goal of the firm is to maximize economic profits, and the firm is expected to make the positive difference between total revenues and total costs as large as it can.
  27. Nominal rate of interest
    The market rate of interest expressed in today’s dollars.

    Nominal, or market, rates of interest rise to take account of the anticipated rate of inflation
  28. Nominal Rate of interest
    in = ir + anticipated rate of inflation

    Where in equals the nominal rate of interest and ir equals the real rate of interest. In short, you can expect to see high nominal rates of interest in periods of high inflation rates.
  29. Real rate of interest
    ir = in - anticipated rate of inflation

    The nominal rate of interest minus the anticipated rate of inflation
  30. Present value
    The value of a future amount expressed in today’s dollars; the most that someone would pay today to receive a certain sum at some point in the future.
  31. Present Value Formula


    t = refers to the number of periods in the future the money is to be paid or received

    PVt = present value of a sum one year hence

    FVt = future sum paid or received one year hence

    i = market rate of interest
  32. Discounting
    The method by which the present value of a future sum or a future stream of sums is obtained.
  33. Rate of discount
    The rate of interest used to discount future sums back to present value.
  34. Share of stock
    A legal claim to a share of a corporation’s future profits. If it is common stock, it incorporates certain voting rights regarding major policy decisions of the corporation. If it is preferred stock, its owners are accorded preferential treatment in the payment of dividends but do not have any voting rights.
  35. Bond
    A legal claim against a firm, usually entitling the owner of the bond to receive a fixed annual coupon payment, plus a lump-sum payment at the bond’s maturity date. Bonds are issued in return for funds lent to the firm.

    Bonds are not claims on the future profits of the firm. Legally, bondholders must be paid whether the firm prospers or not. To help ensure this, bondholders generally receive their coupon payments each year, along with any principal that is due, before any shareholders can receive dividend payments.
  36. common stock
    If the stock you own is common stock, you also have the right to vote on major policy decisions affecting the company, such as the selection of the corporation’s board of directors.

    Your percentage of shares would entitle you to cast a percentage of the votes on such issues.
  37. preferred stock
    If the stock you own is preferred stock, you own a share of the future profits of the corporation but do not have regular voting rights.

    preferential treatment in the payment of dividends.Specifically, the owners of preferred stock generally must receive at least a certain amount of dividends in each period before the owners of common stock can receive any dividends
  38. Reinvestment
    Profits (or depreciation reserves) used to purchase new capital equipment.

    Reinvestment takes place when the firm uses some of its profits to purchase new capital equipment rather than paying the profits out as dividends to shareholders.
  39. securities
    (stocks and bonds) they are markets—centralized, physical locations where exchange takes place.The most prestigious of these markets are the New York Stock Exchange (NYSE) and the New York Bond Exchange, both located in New York City. More than 2,500 stocks are traded on the NYSE, which is sometimes called the “Big Board.”
  40. Random walk theory
    The theory that there are no predictable trends in securities prices that can be used to“get rich quick.”
  41. Inside information
    Information that is not available to the generalpublic about what is happening in acorporation
  42. Securities and Exchange Commission
    The U.S. government agency charged with enforcing insider-trading laws
  43. Price–Earnings ratio
    It is defined as market price per share divided by annual earnings per share.

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