ECON1101 Chapter Notes - Chapter 7: Aggregate Supply, Marginal Utility, Marginal Cost
Marginal Benefit: Producing a certain unit of a given good is the extra benefit
accrued by producing that unit.
Marginal Cost: Extra cost of producing that unit (relevant cost is the "opportunity
cost")
Cost-Benefit Principle: States that an action should be taken if the marginal benefit
is greater than the marginal cost.
Economic Surplus: Difference between the marginal benefit and the marginal cost
of taking that action.
Quantity supplied: Represents the quantity of a given good or service that
maximises the profit of the supplier.
Supply Curve: Represents the relationship between the price of a good or service
and the quantity supplied of that good or service.
Law Of Supply: Describes the tendency for a producer to offer more of a certain
good or service when the price of that good or service increases.
Horizontal Interpretation (of the Supply Curve): Start from a certain price and find
the associated quantity on the supply curve. The quantity you found indicates how
many units the producer is willing to supply at that price.
Vertical Interpretation (of the Supply Curve): Start from a certain quantity (say 2
units) and find the associated price on the supply curve. The price you found
indicates the minimum amount of money the producer is willing to accept to offer
the marginal unit (in our example the marginal unit would be the 2nd unit).
Producer Reservation Price: Denotes the minimum amount of money the
producer is willing to accept to offer a certain good or service.
The period of time when at least one factor of production is fixed is denoted
as the short run.
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Long run is the period of time when all factors of production are variable.
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Average Variable Cost = Variable cost/ Quantity
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Average Total Cost = Total cost/ Quantity
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Marginal cost = Change in total cost/change in variable cost
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Hereafter we assume that when the entrepreneur is indifferent, she decides
to produce.
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Suppose now we are in the long run and the entrepreneur can decide whether or
not to start a new loan to rent the machinery once more ---> no sink cost --> gains
nothing but also loses nothing by exiting.
Sunk Cost: A sunk cost is a cost that once paid cannot be recovered.
Fixed factor of production: If factor of production is fixed, then the cost associated
with it does not vary with the quantity produced.
Fixed cost: A fixed cost is a cost associated with a fixed factor of production
Short run: Denotes a period of time during which at least of one factor of
production is fixed
Variable factor of production: Cost associated with it tends to vary with the
number of units produced.
Long run: Denotes a period of time during which all factor of production are
variable.
Profit: Represents the difference between the total revenues (TR) and the total
costs (TC)
Shut Down Condition (short run): In the short run, the entrepreneur should shut
down production if production < -FC. Otherwise, she should hire the optimal
number of workers and continue operations.
Exit Condition (long run): In the long run, the entrepreneur should exit the industry
if production < 0. Otherwise she should hire the optimal number of workers and
continue operations.
Supply curve for a firm can be derived by changing the price and observe the
variation in quantity produced. In the context of the firm, the supply curve is
equal to the Marginal Cost (MC) curve only for those values of the MC that
are higher than the minimum AVC (in the short run) and higher than the
minimum ATC (in the long run) --> Entrepreneur will not produce anything if
the price is below these points in short run and long run respectively.
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The marginal cost curve eventually increases with the quantity produced. The
production process is subject to increasing marginal costs. This might be due
to the fact that adding more employees operating on a fixed amount of
machineries translates sooner or later into a productivity decline because, for
example, the employees might get in each other's way while operating the
equipment.
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The marginal cost curve cuts the AVC curve and the ATC curve at their
minimum points. (Marginal cost = extra cost associated with the production
of the extra unit of the good) If the extra cost is smaller than the average cost,
then the average will decrease. If the extra cost is higher than the average
cost, average will increase. Average remains constant if and only if the
marginal cost = average cost. Hence, AVC and ATC curve decrease initially as
the MC curve is below them and continue to do so until the point MC curve
meets them as from that point onwards MC curve is above them, they begin
to increase.
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A change in the market price determines the movement along the supply
curve whereas a change in some other factor than the price that affects MC
will shift the ENTIRE supply curve.
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Factors shifting the supply curve could be: (1) Technology - more advanced
technologies reduce the unit cost of production (2) Input prices - a change in
the price of inputs will affect the productive capacity of a firm/industry,
reflecting directly in supply (3) Expectations - Expected future price will make
suppliers adjust their behaviour to take advantage of new opportunities. (4)
Change in pricing for other products - If a seller is producing two or more
goods, and one good experiences a surge in demand, the seller will shift
productive focus to it. (5) Number of suppliers - Higher the number of
suppliers entering the market, the larger the right shift in the aggregate
supply curve.
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Supply in a Perfectly Competitive Market
Wednesday, 4 April 2018
9:09 pm
