Krugman 11 - "Behind the Supply Curve" (FIN) [53]

Firm

An organization that combines inputs such as labor, capital, land, and materials to produce goods or services

Theory of the Firm

The branch of microeconomics that explains how a business makes decisions about production, pricing, and resource allocation

Production

The process of transforming inputs into outputs that have greater value

Profit

The difference between total revenue and total cost (π = TR − TC)

Total Revenue

The income from sales, calculated as TR = P × Q

Total Cost

The total expenditure on all inputs used in production

Explicit Costs

Direct monetary payments such as wages, rent, and materials

Implicit Costs

Opportunity costs of using owned resources, such as the owner’s time or capital

Accounting Profit

Total revenue minus explicit costs

Economic Profit

Total revenue minus both explicit and implicit costs

Production Function

The relationship between inputs and maximum output, often written as Q = f(L, K)

Factors of Production

Inputs used to produce goods and services, including labor, capital, land, technology, and entrepreneurship

Labor

Human effort, both physical and mental, used in production

Physical Capital

Manufactured resources such as machines, tools, and buildings used to produce goods

Technology

The methods or processes used to transform inputs into outputs

Entrepreneurship

The ability to organize resources and take risks to create and run a business

Fixed Input

An input whose quantity cannot be changed in the short run

Variable Input

An input whose quantity can be changed in the short run

Short Run

A time period in which at least one input is fixed

Long Run

A time period in which all inputs are variable

Total Product (TP)

The total quantity of output produced

Total Product Curve

A graph showing how output changes as a variable input changes

Marginal Product (MP)

The additional output from one more unit of input, MP = ΔTP/ΔL

Law of Diminishing Marginal Productivity

As more of a variable input is added to fixed inputs, marginal product eventually declines

Increasing Marginal Returns

A phase where additional inputs increase output at an increasing rate

Negative Marginal Returns

A situation where adding more input reduces total output

Average Product (AP)

Output per unit of input, AP = Q/L

Fixed Cost (FC)

Costs that do not vary with output

Variable Cost (VC)

Costs that change with output

Marginal Cost (MC)

The additional cost of producing one more unit, MC = ΔTC/ΔQ

Upward-Sloping Marginal Cost

MC eventually rises due to diminishing marginal productivity

Average Total Cost (ATC)

Cost per unit of output, ATC = TC/Q

U-Shaped Average Total Cost

ATC decreases at low output and increases at high output

Average Fixed Cost (AFC)

Fixed cost per unit, AFC = FC/Q

Average Variable Cost (AVC)

Variable cost per unit, AVC = VC/Q

Spreading Effect

ATC falls as fixed costs are spread over more units

Diminishing Returns Effect

ATC rises as more variable inputs are needed at higher output

Minimum-Cost Output

The output level where ATC is minimized

MC and ATC Intersection Rule

MC intersects ATC at its minimum point

Marginal Cost and Average Product Inverse

MC falls when MP rises and rises when MP falls

Marginal Cost Formula (Wage-based)

MC = w/MPL, where w is wage and MPL is marginal product of labor

Factor Payments

Payments to factors of production, such as wages, rent, and interest

Sunk Costs

Costs that cannot be recovered and should not affect current decisions

Profit Margin (Average Profit)

The difference between price and average total cost (P − ATC)

Production Technology

The specific way inputs are combined to produce output

Optimized Fixed Cost

Choosing the level of fixed inputs that minimizes cost in the long run

Long-Run Average Total Cost (LRATC) Curve

The lowest possible ATC for each output level when all inputs are variable

Economies of Scale (Increasing Returns to Scale)

LRATC falls as output increases

Diseconomies of Scale (Decreasing Returns to Scale)

LRATC rises as output increases

Constant Returns to Scale

LRATC remains constant as output increases

Economies of Agglomeration

Cost advantages firms gain by locating near each other

Overhead

Another term for fixed costs

Duality

The principle that the production function determines the shape of cost curves