The Economic Theory of the Firm L3

Flashcards covering basic economic definitions, market principles, elasticity, market types, and the Theory of the Firm including cost and revenue analysis.

Microeconomics

The study and analysis of the ways in which individuals, households and companies make decisions and how they interact in markets.

Economics (Role of the Manager)

Ongoing decision making regarding productive processes and how scarce resources are used.

Scarcity

The assumption that available resources are limited, meaning not all desirable goods and services can be generated and not all needs can be satisfied.

Good

A beneficial physical ("tangible") object or item such as articles, commodities, materials, or products that satisfy human wants or needs.

Axiom of non-satiety

The principle that more of a good is always better than less.

Economic goods (Scarce goods)

Goods with limited supply that cannot be obtained without payment or sacrifice, such as manufacturing products.

Free goods

Goods with unlimited supply for practical purposes that can be obtained without sacrifice, such as air or water.

Numeraire goods

Goods used for the purpose of expressing the value of other goods, such as money, gold, or silver.

Services

Intangible yet valuable activities that cannot be manufactured or stored and irreversibly vanish after use.

Efficiency

The overarching desirable property where an individual, firm, or society gets the most out of available resources while avoiding waste.

Allocative efficiency

A state in which every product that can be produced or sold is supplied to a customer who is willing and able to pay for it.

Productive efficiency

A condition under which goods or services are generated at the lowest possible average cost.

Trade-offs

The unavoidable sacrifice of one goal against another required by scarcity, such as the social trade-off between efficiency and equity.

Opportunity Cost

A measure of the value of the next best option given up, or forgone, by choosing a particular option.

Marginal benefit

The benefits gained from one extra unit of action or product.

Marginal cost (MC)

The cost of an additional unit of output "at the margin," calculated as the derivative of the total cost function: MC = rac{dTC}{dq}.

Incentive

Something that drives or motivates an individual to perform an action, defined by the difference between perceived costs and benefits.

Market

A structure that allows buyers and sellers to interact to exchange goods, services, information, or assets.

Transaction

An exchange that occurs within a market.

Market failure

Situations where government action may be needed to support the economy, such as addressing a monopolist's pricing or the damaging effects of pollution.

Productivity of labour

The quantity of goods and services generated, serving as the main determinant of a country's Gross Domestic Product (GDP).

Inflation

The decrease in the relative value of money occurring when the government issues too much money, leading to a general increase in prices.

Supply

The quantity of a good sellers are willing and able to sell at a particular price.

Demand

The quantity of a good buyers are willing and able to buy at a particular price.

Law of demand

The principle that buyers will want to buy more of a product if its price decreases.

Invisible hand

The market process by which self-interested buyers and sellers are coordinated to achieve an efficient distribution of products.

Price elasticity of demand (PED)

A measure of the responsiveness of quantity $q$ to a change in price $p$, defined as: PED = rac{rac{ riangle q}{q}}{rac{ riangle p}{p}}.

Price-inelastic good

A good where |PED| < 1, typically indicating a basic necessity.

Price-elastic good

A good where |PED| > 1, typically indicating a luxury product.

Monopoly

A market with only one seller and multiple buyers, often resulting in small output and high prices.

Oligopoly

A market with a small group of sellers and multiple buyers where strategy determines price and quantity.

Monopolistic competition

A market with many sellers and many buyers offering slightly different versions of products.

Perfect competition

A market with many sellers and many buyers of indistinguishable products where prices are competitive and quantity is efficient.

Theory of the Firm

Theories that explain and predict how companies behave under market conditions to resolve technical considerations and market forces.

Profit ($\pi$)

The difference between total revenue ($TR$) and total cost ($TC$): $\pi = TR - TC$.

Fixed costs (FC)

Costs not linked to the total quantity produced, which are only fixed over the "short run," such as rent or utility bills.

Variable costs (VC)

Costs that change in proportion to the total sum of goods Produced, such as raw materials and direct labour.

Average cost (AC)

The total cost divided by the quantity produced: AC = rac{TC}{q}.

Minimum efficient scale ($q_{MES}$)

The level of output where the firm incurs the minimum Average Cost ($AC$).

Average revenue (AR)

Total revenue divided by quantity: AR = rac{TR}{q}. This curve equates to the demand curve faced by the firm.

Marginal revenue (MR)

The extra revenue obtained by increasing output quantity $q$ by one unit, calculated as the derivative of the total revenue function: MR = rac{dTR}{dq}.

First order criterion of profit maximisation

The rule for setting quantity $q$ such that Marginal Revenue equals Marginal Cost: $MR = MC$.