3.3.4 Normal profits, supernormal profits and losses

proft

total revenue -total costs

how to maximise profits

produce up to the level of output where marginal cost =marginal revenue

normal profit

• total revenue = total costs

• breakeven

• economic profit of zero

• occurs when extra revene left after costs is equal to firms opportunitys costs of factors of production that havent been paid for

• minimum level of profit needed to keep resources in their current use in the long run

supernormal profit

• total revenue is greater than costs

• revenue generated from using factors of production in this way is greate than could have been generated by using them in any other way

• incentive for other firms to joing industry

loss

total revenue is less than total costs

short run shut down point

if the seeling price(average revenue is higher than average variabke cost the firm should keep producgin if the selling price falls to the AVC it should shut down

short run shut down point graph

• The firm produces at the profit maximisation level of output (Q) where MC=MR

• At this level, the P = AVC

  • This means that there is no contribution towards the firm's fixed costs

    • The selling price literally only covers the cost of the raw materials used in production

    • There is no point in continuing production and the firm should shut down

long run shut down point

n the long-run, if the selling price (AR) is higher than the average cost (AC) the firm should remain open (AR > AC)

• if the selling price (AR) is equal to or lower than the average cost (AC), the firm should shut down (AR = AC)

long run shut down point graph

• he firm produces at the profit maximisation level of output (Q) where MC=MR

• At this level, P < AC

  • It could continue operating in the short-run as the AR > AVC, but in the long-run they are making a loss and the firm will shut down