ECON 208 Final Review: Production, Costs, Market Structures and Factor Markets

Terms in this set (30)

1. Short run vs long run in productionIn the short run, at least one input (usually capital) is fixed. In the long run, all inputs are variable, so the firm can change its scale of operation.
2. Total, average and marginal product; law of diminishing marginal returnsTP is total output; AP = TP/L; MP = change in TP / change in L. Diminishing marginal returns: adding more of a variable input to a fixed input eventually makes MP fall.
3. Fixed costs vs variable costsFixed costs do not change with output in the short run (rent). Variable costs rise with output (raw materials, hourly labour). TC = TFC + TVC.
4. Average and marginal cost formulasAFC = TFC/Q, AVC = TVC/Q, ATC = TC/Q = AFC + AVC. MC = change in TC / change in Q.
5. Where does MC cross AVC and ATC?At their minimum points. When MC is below an average, the average falls; when MC is above it, the average rises.
6. Mini-problem: total cost rises from $100 to $130 when output rises from 10 to 11 units. MC?MC = (130 - 100)/(11 - 10) = $30.
7. Economies vs diseconomies of scaleEconomies of scale: long-run average cost falls as output expands (specialization, bulk buying). Diseconomies: LRAC rises at large scale (coordination problems). Minimum efficient scale is the smallest output at which LRAC is minimized.
8. Accounting profit vs economic profitAccounting profit = revenue - explicit costs. Economic profit = revenue - explicit costs - implicit (opportunity) costs. Zero economic profit means a normal return on resources.
9. Characteristics of perfect competitionMany buyers and sellers, identical products, free entry and exit, and full information. Each firm is a price taker facing a horizontal demand curve at the market price.
10. Profit-maximizing rule for any firmProduce where marginal revenue = marginal cost (MR = MC). For a perfectly competitive firm, MR = P, so it produces where P = MC.
11. Short-run shutdown ruleA firm should shut down if price is below minimum average variable cost, because it cannot cover variable costs. If P is between min AVC and min ATC, it operates at a loss to cover part of fixed costs.
12. Long-run equilibrium in perfect competitionEntry and exit drive economic profit to zero, so P = MC = minimum ATC. The outcome is both allocatively and productively efficient.
13. Why is a monopolist's marginal revenue below price?To sell an extra unit, a single-price monopolist must lower the price on all units sold. With linear demand P = a - bQ, MR = a - 2bQ, so MR has twice the slope of demand.
14. Mini-problem: monopolist with demand P = 100 - 2Q and MC = 20. Profit-maximizing Q and P?MR = 100 - 4Q. Set MR = MC: 100 - 4Q = 20, so Q = 20. Price from demand: P = 100 - 40 = $60.
15. Monopoly vs perfect competition outcomesCompared with competition, a monopoly charges a higher price and produces a lower quantity, creating deadweight loss. P > MC, so the outcome is allocatively inefficient.
16. Natural monopoly and the regulation problemA natural monopoly has falling average costs over the relevant output range, so one firm can supply the market most cheaply. Marginal-cost pricing causes losses since P < ATC; average-cost pricing lets the firm break even.
17. Conditions needed for price discriminationThe firm must have market power, be able to identify groups with different willingness to pay or elasticities, and prevent resale between groups.
18. Perfect (first-degree) price discriminationEach unit is sold at the buyer's maximum willingness to pay. Output reaches the efficient level, so there is no deadweight loss, but the firm captures all consumer surplus.
19. Long-run equilibrium in monopolistic competitionEntry pushes economic profit to zero, so P = ATC, but the demand curve slopes down, so P > MC and firms produce below minimum ATC (excess capacity).
20. Prisoner's dilemma in oligopolyEach firm has an incentive to cheat (cut price or raise output) whatever the other does, so the Nash equilibrium is for both to compete, even though both would earn more by cooperating.
21. Dominant strategy vs Nash equilibriumA dominant strategy is best regardless of what rivals do. A Nash equilibrium is a set of strategies where no player can gain by changing strategy alone, given the others' choices.
22. Why are cartels unstable?Each member can raise its own profit by secretly producing more than its quota at the high cartel price. Cheating is hard to detect and punish, and collusion is illegal in many countries.
23. Herfindahl-Hirschman Index (HHI)The sum of the squared market shares (in percent) of all firms. It ranges up to 10,000 for a pure monopoly; higher values mean a more concentrated industry.
24. Why is the demand for labour a derived demand?Firms want labour not for itself but for the output it produces, so labour demand depends on demand for the final product and on labour's productivity.
25. How many workers does a profit-maximizing firm hire?It hires until the marginal revenue product of labour equals the wage: MRP = MR x MP = w. In a competitive output market, this is P x MP (value of marginal product) = w.
26. What is a monopsony and how does it affect wages?A market with a single buyer of a factor, such as one employer in a town. It hires fewer workers and pays a lower wage than a competitive labour market would.
27. Lorenz curve and Gini coefficientThe Lorenz curve plots the cumulative share of income against the cumulative share of households. The Gini coefficient measures the gap from the line of perfect equality: 0 is perfect equality and 1 is maximum inequality.
28. Economic rent in factor marketsPayment to a factor above what is needed to keep it in its current use (its transfer earnings). A star athlete's salary far above their next best job includes large economic rent.
29. Allocative vs productive efficiencyAllocative efficiency: producing the mix of goods society values most, where P = MC. Productive efficiency: producing at the lowest possible average cost (minimum ATC).
30. Should sunk costs affect business decisions?No. Sunk costs have already been paid and cannot be recovered, so only future marginal costs and benefits should guide decisions.