AP Microeconomics - Unit 3 Notes

Unit 3 Microeconomics

Some info/photos taken from Jacob Clifford and ReviewEcon on youtube.

3.1 - The Production Function

The Production Function - The relationship between the quantity of inputs used and quantity of outputs

• Fixed Inputs

  • Cannot [easily] change during a period of time

  • Generally land in short-term runs. Should be at least 1 in short-term

• Variable inputs

  • Can change over a period of time

  • During long runs, all inputs are variable

  • In, short-run, ex: land

Short-Run

• at least one fixed input 

• Law of diminishing marginal returns applies

Long-Run

• All inputs are variable

• Law of diminishing marginal returns does not apply due to variable inputs

(△ = change in)

Total Product (TP) - The total quantity of output produced by a firm given a fixed input.

TP=Sum(MP)

Average Product (AP) - The total quantity of output produced per unit of labor

AP - TP/L

Marginal Product - extra output created by adding an additional worker

 △TP/ △L

The Law of Diminishing Marginal Utility - As a person consumes more of a good, they get less pleasure out of additional units. Related to Consumer behavior.

The Law of Diminishing Marginal Returns - Eventually, when there is a fixed amount of land/capital, adding another worker decreases utility. (Things get too crowded!) Related to producer behavior. Sets in whenever marginal product begins to decrease

• There is an initial increase in marginal product due to specialization

3.2 - Short-Run Production Costs

Producers want to maximize profits, pi=profits in economics

Fixed costs (fc) - costs that cannot be change

Variable costs (vc) - costs that can be changed 

Marginal cost (mc) - the addition cost of staying open one more hour (Stores) or producing one more product

Total cost (tc): fixed + variable costs

Equations

Total revenue - total costs = total revenue

Total costs = tvc + tfc

Average total cost = avc + atc, or tc/q

Marginal cost (MC) = ΔTC/ΔQ

Where marginal costs begin to increase is where the Law of Diminishing Marginal Returns comes into effect for costs.

The Marginal Product Curve is a mirror of the Marginal Cost Curve.

When the marginal product is increasing, marginal cost is falling, and vice versa. (due to specialization)

3.3 - Long-Run Production Costs

The long-run average total cost curve (LRATC curve) is the summation of all the short-run ATCs a firm could produce under different firm sizes. It is used to determine how large a firm should optimally be.

• Economies of Scale: Downward sloping LRATC, higher quantities have a lower average cost 

  • Doubling inputs triples outputs

• Constant returns to scale: LRATC is flat

• Doubling inputs doubles outputs

• Diseconomies of scale: Upward sloping LRATC

  • Doubling inputs less than doubles output

  • the firm is too large and is hard to manage 

Efficient scale - The point of lowest possible output at which a firm can minimize long-run average costs and operate efficiently. Occurs at the center or constant returns to scale

3.5 - Profit Maximization

Accounting Profit - Total revenue minus explicit costs only, used by accountants.

Economic Profit - Total revenue minus total costs (both implicit and explicit)

Normal Profit - When Economic Profit = 0, Accounting Profit = Opportunity Costs

If MC > MR, produce less.

If MC < MR, produce more

If MC = MR is perfect profit maximization, it is the profiting maximizing point

3.6 - Firm’s Short-Run and Long-Run Decisions

Short Run:

When a business shuts down it still has to pay fixed costs. 

Compare: TR/TVC or P/AVC

In the Short Run, a firm will choose to shut-down when the price of the good falls below the average variable cost. (P<AVC) 

A firm will choose to operate as long as the price is equal to or greater than the AVC. (P>AVG) 

A firm will still stay open when price falls below total costs or fixed costs to minimize loss. (P<ATC)

3.7 Perfect Competition in the Short Run

THIS IS COVERED IN UNIT 4 NOTES, BECAUSE IT FITS BETTER WITH UNIT 4. LINK HERE