Microeconomics Exam 2
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What are the four factors of production?
What is marginal product?
A change in quantity produced due to a change in labor, all other inputs fixed.
What are the three assumptions of production theory (or the duality between production and cost), and how do they relate to the graphs?
- Specialization of labor (MP curve is rising)
- Law of diminishing MP (variable inputs overwhelm fixed inputs-MP is falling)
- Supply of labor is perfectly elastic (quantity of labor must be only variable, also ties production curves to cost curves)
How can these assumptions fail?
- Labor is highly specialized
- Firm is large part of market
- Collective bargaining or other factor makes labor supply less than perfectly elastic.
What is average product?
Product per worker
What is marginal cost?
Change in total cost resulting from a change in quantity, as well as the derivative of TC.
What is the relationship (duality) between MP and MC?
When MP is increasing, MC is decreasing. When MP is decreasing, MC is increasing.
What is profit?
Profit (symbol: pi) is equal to TR-TC
When we talk about cost, what are we really talking about?
Opportunity cost, the value of the resource in its next best use or function.
What is an externality?
An opportunity cost that is not an expenditure (ie, pollution).
What is profit used for?
Paying entrepreneurs their opportunity cost.
What do we mean by excess or economic profit?
Profit left over after paying opportunity costs.
What is normal profit?
Economic profit equal to zero. This is the equilibrium in the long run.
What are the assumptions of perfect competition, and how do they relate to the graphs?
- Firms seek to maximize profit (a firm will continue to produce until MR=MC)
- Homogeneous product (the demand curve of the firm is perfectly elastic)
- "Many" firms (price=MR, therefore the firm is a price taker).
- All firms have equal access to resources (one set of curves for a "representative" firm describes all firms.
- Easy entry and exit from the market (again, equilibrium arises at minimum of ATC).
What is a collective consumption good?
A good that is privately owned that is used (or enjoyed) by many. Such a good might be a front garden whose beauty (which still provides utility) is enjoyed even by those who don't own it.
What is a private good?
A good used by an individual.
Where is the break-even point, and what is its significance?
A the minimum of ATC, and it is the short and long-run equilibrium (as there is no incentive for firms to enter or leave).
What is the demand curve of the firm?
MR, as well as Price
Where does profit maximization occur?
What is the supply curve of the firm?
MC from minimum of AVC (shutdown point).
When do profits and losses occur?
- When P>ATC, profits
- When P<ATC, losses
What causes the supply curve to move about?
Many firms entering and leaving the market.
In the long run, why do curves move down and right?
The character of capital changes (plow versus tractor)
What happens to the cost of administration as firms grow?
It increases, eventually causing firms to grow too large and begin operating at a loss.
What can we say about costs in the long run?
What is the long run average cost curve?
The curve that envelops (hence it is sometimes called the envelope curve) all short-run average cost curves.
What can be said about how firms plan and operate?
They plan for the long run but operate in the short run.
Where does short-run price equilibrium occur?
The interaction between market supply and demand sets the equilibrium in the short run.
What is technical efficiency?
Operating along the ATC curve, such that MC=MR. Operating above the curve is technical inefficiency, operating below is impossible.
Why might firms operate at a loss in the short-term?
The cost of operating at a loss is less than incurring the cost of paying for all inputs that may be required regardless of whether or not we're producing (rent, loans, etc.), but we will leave the market as soon as possible unless we return to excess or normal profitability.
What causes increasing returns to scale, what does this mean, and what is its graph?
Change in character of capital and quantity discounts. This means that AC are falling while quantity is increasing. It is the downward sloping part of the LRAC curve.
What causes constant returns to scale, what does this mean, and what is its graph?
No more quantity discounts and the inability to continue to change the character of the capital. This means that AC are staying the same while quantity is increasing. It is the flat part (if it exists) or the minimum of the LRAC curve.
What causes decreasing returns to scale, what does this mean, and what is its graph?
Bureaucracy results in diseconomies of scale. Costs are increasing while quantity is increasing. This is the upward sloping part of the LRAC.
What are diseconomies of scale?
Firms where ATCs are tending to increase due to bureaucracy, replication of labor, and other factors.
What is long-run equilibrium?
P=MC=AR=df=min SRAC=min LRAC
How can scale affect costs?
Increasing scale can adjust the LRAC down, unless the firm is already at the minimum of the LRAC curve.
What is economic efficiency?
Operating such that P=MC, that is, each resource is being used in its highest and best use, and the value of the good is equal to the value of its inputs.
What can be said about income distributions and economic efficiency?
For each income distribution there is a different economic efficiency.
What is allocative efficiency?
The value that the market places on a good is equal to the value that consumers place on the good, that is AR=MC.
What is productive efficiency?
Goods being supplied at the lowest ATC, that is equilibrium occurs at the minimum of ATC.
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