Economic Concepts in Technology and Market Structures

Technology (economic sense)

Process that converts inputs (workers, machines, natural resources) into outputs (goods/services).

Positive technological change

More output with same inputs.

Negative technological change

Less output with same inputs.

Short run (SR)

At least one input is fixed (e.g., factory lease). Time length firm-specific.

Long run (LR)

All inputs are variable; firms can change plant size & technology.

Variable cost (VC)

Changes with output.

Fixed cost (FC)

Constant within SR.

Total cost

TC = FC + VC

Explicit costs

Monetary outlays.

Implicit costs

Non-monetary opportunity costs (owner's time, foregone interest, depreciation).

Total economic cost

151{,}000

Production function (weekly)

0 workers → 0 pizzas; 1 → 200; 2 → 450; 3 → 550; 4 → 600; 5 → 625; 6 → 640.

Average total cost (ATC)

Falls from 7.25 (200 pizzas) to 4.67 (450) then rises to 7.34 (640) — U-shape.

Marginal product of labor (MPL)

Extra output from one more worker.

Law of Diminishing Returns

Adding variable input to fixed input eventually causes MPL ↓.

Average product of labor (APL)

APL = rac{Q}{L}

Marginal cost (MC)

MC = rac{ riangle TC}{ riangle Q} (or when output changes by 1, MC = TC{n} - TC{n-1}).

U-shaped ATC

Arises because early workers ↑ output more than cost ↑ ⇒ MC < ATC, ATC ↓; later workers add little output ⇒ MC > ATC, ATC ↑.

Cost relationship

ATC = AFC + AVC where AFC = rac{FC}{Q} and AVC = rac{VC}{Q}.

Economies of scale

LRAC ↓ as Q ↑ (e.g., small car plant vs. large plant up to some Q).

Minimum efficient scale (MES)

Smallest Q where economies exhausted.

Constant returns to scale

LRAC flat.

Diseconomies of scale

LRAC ↑ as Q ↑ (management complexity; Ford's River Rouge & Toyota quote).

Average Fixed Cost (AFC)

AFC = \dfrac{FC}{Q}

Average Variable Cost (AVC)

AVC = \dfrac{VC}{Q}

Isoquant

Curve of input bundles yielding same output (e.g., 5,000 pizzas with (3 ovens, 6 workers) or (2 ovens, 10 workers)).

Marginal Rate of Technical Substitution (MRTS)

MRTS = \left|\dfrac{dK}{dL}\right|{Q} = \dfrac{MPL}{MP_K}; slope of isoquant diminishes ⇒ diminishing returns.

Isocost

C = wL + rK; line slope = -\dfrac{w}{r}.

Cost-minimization condition

\frac{MPL}{w} = \frac{MPK}{r} or MPL \cdot r = MPK \cdot w

Expansion path

Locus of LR cost-minimizing bundles for successive outputs (bookcase example: 75 bookcases → (15,60); 100 SR → (15,110) costlier than LR choice (20,80)).

NFL Draft efficiency study

Teams should equate \dfrac{MP}{w} across players; evidence shows overpaying early picks.

Ethical/Economic implications

AI & robotics shift labor demand; policy concerns over job displacement.

Market Structures

Four canonical models, ordered by degree of competition.

Perfect Competition

Many firms, identical product, high ease of entry; Examples: growing wheat, poultry farming.

Monopolistic Competition

Many firms, differentiated products, high entry; Examples: clothing stores, restaurants.

Oligopoly

Few firms, identical or differentiated products, low entry; Examples: streaming services, computer manufacturing.

Monopoly

One firm, unique product, entry blocked; Examples: first-class mail, municipal tap water.

Perfectly Competitive Markets

Definition (all three must hold): Many buyers & sellers, all firms sell an identical product, no barriers for new firms to enter/exit.

Price Taker

Each individual firm is a price taker—it faces a perfectly elastic (horizontal) demand curve at the market price.

Total Revenue (TR)

\text{Total Revenue (TR)} = P \times Q

Average Revenue (AR)

\text{Average Revenue (AR)} = \dfrac{TR}{Q} = P

Marginal Revenue (MR)

\text{Marginal Revenue (MR)} = \dfrac{\Delta TR}{\Delta Q} = P

Profit Maximisation Logic

Choose Q where the vertical gap TR - TC is greatest.

Farmer Parker's Wheat Revenue

Market price: \$7 per bushel; TR rises by \$7 for every additional bushel; AR & MR remain 7.

Maximum profit

Maximum profit = \$13.50 at Q = 7 bushels.

Profit

Profit = (P - ATC) × Q

Height of Profit Rectangle

Unit profit (P - ATC)

Width of Profit Rectangle

Q produced

Minimum ATC

Minimum ATC is NOT automatically profit-maximising; additional units may add more to TR than to TC.

Break-Even Point

If P = ATC → break even (zero economic profit).

Loss Condition

If P < ATC → loss.

MR = MC Output

At the MR = MC output, if P > ATC → profit.

Short-Run Shutdown Decision

Fixed costs are sunk; ignore them. Compare revenue with variable cost (VC).

Condition to Produce in Short Run

Total Revenue ≥ Variable Cost

Price Condition for Production

If P ≥ AVC → follow P = MC to choose Q.

Shutdown Condition

If P < AVC → shut down and produce Q = 0.

Firm Supply Curve

The portion of the MC curve above the minimum of AVC is the firm's individual supply curve.

Market Supply Curve

Horizontal summation of all individual MC-segments (above AVC) yields the industry supply curve.

Cage-Free vs. Pasture-Raised Eggs

Initial high price for cage-free eggs (double conventional) created profit; entry expanded supply, eroding price by 2023.

Virtuelly Inc.

Revenue nearing break-even, but owner under-pays himself → implicit cost means economic profit < accounting profit.

Sneaker Resale Market

Easy entry; liquidity via StockX/GOAT; 2022 prices fell 20% in a month—illustrates erosion of profit through entry.

Economic Profit

Economic profit (>0) attracts new firms → supply ↑ → price ↓ until P = ATC and profit returns to 0.

Economic Loss

Economic loss (<0) triggers exit → supply ↓ → price ↑ until break-even restored.

Long-Run Competitive Equilibrium

Typical firm breaks even; occurs where P = MC = ATC = min LRAC.

Total Cost Calculation

Total cost = $90,000; TR = 50,000 × $3 = $150,000 ⇒ economic profit = $60,000.

Demand Drop Scenario

Demand drop lowers price from $2 to $1.75 → losses.

Long-Run Supply Curve

For a constant-cost industry: horizontal at P = min ATC—market will supply any Q demanded at this price.

Increasing-Cost Industry

Resource constraints raise costs as industry expands ⇒ LR supply curves upward sloping.

Decreasing-Cost Industry

Economies of scale or input price declines as industry expands ⇒ LR supply curves downward sloping.

Productive Efficiency

Production at lowest ATC; ensured long-run because P = min ATC.

Allocative Efficiency

Resources allocated to goods consumers value most; occurs because price reflects marginal benefit (MB) to consumers.

Efficiency in Perfect Competition

Perfect competition achieves both efficiencies simultaneously; serves as benchmark for assessing other market forms.

Key Equation for Profit

Profit = TR - TC

Average Revenue Equation

AR = TR/Q = P

Marginal Revenue Equation

MR = ΔTR/ΔQ = P

Profit per Unit

Profit per unit: P - ATC

Total Profit Equation

Profit total = (P - ATC) × Q

Shutdown Rule

Produce if P ≥ AVC; Shut down if P < AVC.

Loss-Minimisation Condition

Loss-minimisation/Profit-maximisation condition: MR = MC → for perfect competition P = MC.

Self-interest

Can yield socially beneficial order (invisible hand), but only under strict competitive conditions.

Entry/exit forces

Guarantee that long-run economic profit is zero—important lesson for entrepreneurs: advantages erode unless barriers exist.

Implicit vs. explicit cost

Distinction crucial for personal decision-making (e.g., forgone salary in startups).

Markets with low entry barriers

Demonstrate transient profitability; sustainable profit requires differentiation or barriers.

Product differentiation

The key distinguishing feature of monopolistic competition.

Demand curve for the individual firm

Is downward-sloping because some customers switch to rivals when price rises, but not all.

Output effect

Revenue gained on the extra unit (equal to new price).

Price effect

Revenue lost because the lower price applies to previous units.

Profit maximization rule

For any firm able to vary output: produce Q where MC = MR.

Profit calculation

Profit = (P - ATC) × Q (height × width).

Short-run economic profit

Greater than 0 attracts entry because barriers are low.

Long-run equilibrium in perfect competition

Occurs when P = MC = minimum ATC.

Long-run equilibrium in monopolistic competition

Produces where MC = MR < P, with average cost greater than minimum.

Brand management

Ongoing actions to maintain differentiation.

Marketing

All firm activities required to sell a product.

Third-wave coffeehouses

Likely face copying; profits may erode over time.

Constant-, increasing-, decreasing-cost industries

Distinguished by their cost behavior as output changes.

Profit rectangle

Graphical representation of profit or loss on cost curves.

Demand and Marginal Revenue for a Firm

Illustrates how demand and revenue interact in a monopolistically competitive market.

Transient profitability

Observed in markets with low entry barriers.

Advertising roles

Shift demand rightward (raise overall demand) and make demand more inelastic (steepen curve), enabling higher prices.