Unit 1: Basic Economic Concepts
● Economics is the science of scarcity
○ Studying why people choose to do certain things, all driven by scarcity
● Scarcity
○ Unlimited wants, limited resources
● Since we are unable to have everything we desire, we must make choices on how
we will use our resources.
○ Economics is the study of choices
● Study the choices of individuals, firms, and governments
○ Individual: Wear certain hoodie
○ Firm: make Travis Scott meal
○ Government: decide welfare budget
● Economics
○ Social science concerned with the efficient use of scarce resources to
achieve maximum satisfaction of economic wants
○ Study of how individuals and societies deal with scarcity
● Microeconomics
○ Study of small economic units such as individuals, firms, industries (ex:
supply and demand in specific markets, production costs, labor markets,
etc…)
● Macroeconomics
○ Study of the large economy as a whole or economic aggregates (ex:
economic growth, government spending, inflation, unemployment,
international trade, etc…)
● How is economics used?
○ Economists use the scientific method to make generalizations and
abstractions to develop theories. This is called theoretical economics.
○ These theories are then applied to fix problems or meet economic goals.
This is called policy economics.
● Positive vs. Normative
○ Positive statements
■ Based on facts. Avoids value judgements (what is)
○ Normative statements
■ Includes value judgements (what ought to be)
● 5 Key Economic Assumptions
○ Society has unlimited wants and limited resources (scarcity)
○ Due to scarcity, choices must be made. Every choice has a cost (a
trade-off)
○ Everyone’s goal is to make choices that maximize their satisfaction.
Everyone acts in their own “self-interest”
○ Everyone makes decisions by comparing the marginal costs and marginal
benefits of every choice
●
●
●
●
●
●
○ Real-life situations can be explained and analyzed through simplified
models and graphs.
Thinking at the margin
○ Only partake in the action when the benefit outweighs the cost
○ Don’t see a movie 3 times
Marginal Analysis
○ In economics the term marginal = additional
○ Marginal analysis (aka: thinking on the margin)
○ Making decisions based on increments
○ Ex:
■ When you decide to go to the mall you consider the additional
benefit and the additional cost (your opportunity cost)
■ Once you get to the mall, you continue to use marginal analysis
when you shop, buy food, and talk to friends
■ Since your marginal benefits and costs can quickly change, you’re
analyzing them every second.
■ What if your ex girlfriend shows up?
■ The point: You will continue to do something as long as the
marginal benefit is greater than the marginal cost
Trade offs vs. Opportunity costs
○ All decisions involve trade-offs
○ Trade-offs
■ ALL the alternatives that we give up when we make a choice
○ Opportunity cost
■ Most desirable alternative given up when you make a choice
Economic Terminology
○ Utility
■ Satisfaction
○ Marginal
■ Additional
○ Allocate
■ Distribute
Price Vs. Cost
○ What’s the price? How much does it cost?
○ Price
■ Amount buyer (or consumer) pays
■ Amount seller pays to produce a good or service
Investment
○ The money spent by businesses to improve their production
○ Ex: $1 million new factory
○ Consumer good
■ Created for direct consumption (ex: pizza)
○ Capital good
■ Created for indirect consumption
● The four factors of production
○ Land: all natural resources that are used to produce goods and services
○ Labor: any effort a person devotes to a task for which that person is paid
○ Capital:
■ Physical capital: any human-made resource that is used to create
other goods and services
■ Human capital: any skills or knowledge gained by a worker
through education and experience
○ Entrepreneurship: ambitious leaders that combine the other factors of
production to create goods and services
● Entrepreneurs
○ Take the initiative
○ Innovate
○ Risk bearers
■ So that they can make profit
_____________________________________________________________________________________________________
● Scarcity means that there is not enough for everyone
○ Society must decide how resources will be allocated (distributed).
● The Three Economic Questions (every society must answer)
○ What goods and services should be produced?
○ How should these goods and services be produced?
○ Who consumes these goods and services?
● The way these questions are answered determines the economic system
● An economic system is the method used by a society to produce and distribute
goods and services
● Economic Systems
○ Command (Centrally-Planned) Economy *Government
○ Free Market Economy *Freedom
○ Mixed Economy *Both
● Characteristics of Centrally Planned Economies
○ In a centrally planned economy (communism), the government:
■ Owns all the resources
■ Answers the three economic questions
○ Examples
■ Cuba, North Korea, former Soviet Union, China
○ Why do centrally planned economies face problems of poor-quality goods,
shortages, and unhappy citizens?
■ There is little incentive to work harder and central planners have a
hard time predicting preferences
● Advantages and disadvantages of communism
○ What is good about it?
■ Low unemployment- everyone has a job
■ Great job security- the government doesn’t go out of business
■ Less income inequality
■ “Free” health care
○ What is bad about it?
■ No incentive to work harder
■ No incentive to innovate or come up with good ideas
■ No competition keeps quality of goods poor
● Characteristics of Free Market
○ Little government involvement in the economy
■ (Laissez Faire = Let it be)
○ Individuals own resources and answer the three economic questions
○ The opportunity to make profit gives people incentive to produce quality
items efficiently.
○ Wide variety of goods available to consumers
○ Competition and self-interest work together to regulate the economy
(keep prices down and quality up)
● The Invisible Hand
○ The concept that society’s goals will be met as individuals seek their own
self-interest
○ Ex: Society wants fuel-efficient cars
■ Profit seeking producers will make more
■ Competition between firms results in low prices, high quality, and
greater efficiency
■ The government doesn’t need to get involved since the needs of
society are automatically met
○ Competition and self-interest act as an invisible hand that regulates the
free market
● Characteristics of a Mixed Economy
○ A system with free markets but also some government regulation
● Productivity creates wealth
○ Countries with free markets, property rights, and The Rule of Law, have
historically seen greater economic growth because they are more
production
_____________________________________________________________________________________________________
● What is the Production Possibilities Curve?
○ A production possibilities curve (or frontier) is a model that shows
alternative ways that an economy can use its scarce resources
○ This model graphically demonstrates scarcity, trade-offs, opportunity
costs, and efficiency.
● 4 Key Assumptions
○ Only two goods can be produced
○ Full employment of resources
○ FIxed resources (ceteris paribus)
○ Fixed Technology
● Production possibilities table:
A
B
C
D
E
bikes
14
12
9
5
0
computers
0
2
4
6
8
● Each point represents a specific combination of goods that can be produced given
full employment of resources
● Table graph:
● How does the PPC graphically demonstrate scarcity, trade-offs, opportunity costs,
and efficiency?
● Any point off the graph line is considered to be “unobtainable”
A
B
C
D
E
calzones
4
3
2
1
0
pizza
0
1
2
3
4
● List the opportunity cost of moving from a-b, b-c, c-d, and d-e:
●
●
●
●
●
●
●
○ A-B: One calzone
○ B-C: One calzone
○ C-D: One calzone
○ D-E: One calzone
Constant Opportunity Cost: As you produce a good, the cost to produce it stays
the same
Why? Resources are easily adaptable for producing either good
*Straight Line
Increasing opportunity cost: As you produce more of any good, the opportunity
cost (forgone production of another good) will increase
Why? Resources are NOT easily adaptable to producing both goods
Production possibilities
○ 4 key assumptions revisited
■ Only two goods can be produced
■ Full employment of resources
■ FIxed Resources (4 factors)
■ Fixed technology
○ What if there is a change? (3 shifters of the PPC)
■ Change in resource quantity or quality
■ Change in Technology
■ Change in Trade (allows more consumption)
PPC Practice:
_____________________________________________________________________________________________________
● Why do people trade?
○ Assume people didn’t trade. What things would you have to go without?
○ Everything you don’t produce yourself
■ Clothes, car, cell phone, bananas, healthcare, etc…
○ The point: everyone specialized in the production of some goods and
services and trades for others.
○ What would life be like if people in cities couldn’t trade with people in
other cities or people in states couldn’t trade with people in other states?
○ Limiting trade would reduce people’s choices
○ The point: More access to trade means more choices and a higher
standard of living
● Per unit opportunity cost
○ Per unit opportunity cost = (opportunity cost/units gained)
○ Assume it costs you $50 to produce 5 t-shirts. What is your PER UNIT cost
for each shirt?
■ $10
○ Now, take the money out of the equation. Instead of producing 5 shirts
you could have made 10 hats.
●
●
●
●
■ What is your PER UNIT opportunity cost for each shirt in terms of
hats given up?
● 1 shirt costs 2 hats
Absolute advantage
○ The produced that can produce the most output OR requires the least
amount of inputs (resources)
■ Ex: Papa John has an absolute advantage in pizzas because he can
produce 100 and ROnald can only make 20
Comparative advantage
○ THe producer with the lowest opportunity cost
■ Ex: Ronald has a comparative advantage in burgers because he has
a lowest PER UNIT opportunity cost
Countries should trade if they have a relatively lower opportunity cost
○ Specialize in the good that is “cheaper” for them to produce (the one they
have a comparative advantage)
Determining Comparative Advantage:
Output Questions: (OOO) = Output: Other goes Over
CDS Beef
Japan
4
2
Canada
4
6
1. Which nation has an absolute advantage in producing CDS?
a. Neither
2. Which nation has an absolute advantage in producing beef?
a. Canada
3. Which has a comparative advantage in producing CDS?
a. Japan
4. Which has a comparative advantage in producing beef?
a. Canada
5. Should Japan specialize in producing CDS or beef?
a. CDS
6. Should Canada specialize in producing CDs or beef?
a. Beef
Input Questions: (IOU) = Input: Other goes Under
Bread
Corn
United States
4
2
France
4
6
1. Which nation has an absolute advantage in producing bread?
a. Neither
2. Which nation has an absolute advantage in producing corn?
a. United States
3. Which has a comparative advantage in producing bread?
a. France
4. Which has a comparative advantage in producing corn?
a. United States
_____________________________________________________________________________________________________
● Is it possible to…
○ Prevent wildfires in California forever?
○ Ensure that no one ever speeds on the freeway?
○ Create a research station on Mars?
○ Stop pollution from fossil fuels?
○ Completely stop illegal immigration?
○ Make sure everyone in the US has a job?
YES! But the costs outweigh the benefits.
● It is not enough that an outcome has benefits. Those benefits must outweigh the
cost.
● What types of costs should we include when making a decision?
○ Opportunity cost
○ Trade-offs
● Explicit Costs v. Implicit Costs
○ Economists examine both EXPLICIT COSTS and IMPLICIT COSTS
■ Explicit costs are the traditional out of pocket costs associated with
making a decision. (Ex: price of a movie ticket)
■ Implicit costs are the opportunity costs of making a decision. (Ex:
you lose the chance to spend time with your mom)
● The law of diminishing marginal benefits
○ Diminishing utility, as it becomes less useful the more you use/buy
something
● Consumer choice and utility maximization
○ Imagine that it’s a really hot day and that you’re thirsty. Which sip of
water will have the highest marginal utility for you? The first one.
■ What will happen to the marginal utility of each sip of water as you
drink water? It goes down.
■ Now somebody offers you 12 bottles of water. How much utility
does that 12th bottle of water have for you right there? Not much
● The law of diminishing marginal utility
○ The law of diminishing marginal utility states that as you consume
anything, the additional satisfaction that you will receive will eventually
start to decrease
○ In other words, the more you buy of ANY GOOD the less satisfaction you
get from each new unit consumed.
■ The point: you will continue to do something as long as the
marginal benefit is greater than the marginal cost.
Number of Slices of
Pizza
Total Utility (in dollars)
Marginal Utility/Benefit
0
0
0
1
8
8
2
14
6
3
19
5
4
23
4
5
25
2
6
26
1
7
26
0
8
24
-2
● How many pieces of pizza would you buy if the price per slice was $2?
○ 5
● You will continue to consume until: Marginal Benefit = Marginal Cost (MB = MC)
● Utility Maximization
Number of
Times Going
Marginal
Utility
(Movies)
MU/P
(Price = $10)
Marginal
Utility
(Go-Karts)
MU/P
(Price = $5)
1
30
3
10
2
2
20
2
5
1
3
10
1
2
.4
4
5
.5
1
.2
●
If you have $40, what combination of movies and go karts maximizes your utility
○ 3 Movies and 2 Go-Karts
● Utility Maximizing Rule
○ The consumer’s money should be spent so that the marginal utility per
dollar of each goods equal each other.
○ (MUx)/Px = (MUv)/Py
_____________________________________________________________________________________________________
● Demand Defined:
○ What is demand?
■ Demand is the different quantities of goods that consumers are
willing and able to buy at different prices.
■ (Ex: You are able to purchase diapers, but if you aren’t willing to
buy then there is NO demand)
○ What is the law of demand?
■ There is an inverse relationship between price and quantity
demanded.
● Why does the Law of Demand occur?
○ The law of demand is the result of three separate behavior patterns that
overlap:
■ The substitution effect
■ The income effect
■ The law of diminishing marginal utility
● The substitution effect
○ If the price goes up for a product, consumer buy less of that product and
more of another substitute product (and vice versa)
● The income effect
○ If the price goes down for a product, the purchasing power increases for
consumers- allowing them to purchase more
● The law of diminishing marginal utility
○ Utility=satisfaction
○ We buy goods because we get utility from them
○ The law of diminishing marginal utility states that as you consume
anything, the additional satisfaction that you receive will eventually start
to decrease
○ In other words, the more you buy of ANY GOOD the less satisfaction you
get from each new unit consumed.
● The Demand Curve
○ A demand curve is a graphical representation of a demand schedule
○ The demand curve is downward sloping showing the inverse relationship
between price (on the y-axis) and quantity demanded (on the x-axis)
○ When reading a demand curve, assume all outside factors, such as income,
are held constant. (This is called ceteris paribus)
● Graphing Demand
Quantity
Demanded
Price
10
5
20
4
30
3
50
2
80
1
Demand Review:
1. What are the two key aspects of the definition of demand?
2. What is the Law of Demand?
3. Give an example of the substitution effect
4. Give an example of the income effect
5. GIve an example of the law of diminishing marginal utility
6. Explain how the law of diminishing marginal utility causes the law of demand
7. How do you determine the MARKET demand for a particular good?
8. Name 10 fast food restaurant
● Shifts in demand
○ Ceteris paribus- “all other things held constant
○ When the ceteris paribus assumption is dropped, movement no longer
occurs along the demand curve. Rather, the entire demand curve shifts.
○ A shift means that at the same prices, more people are willing and able to
purchase that good.
○ *This is a change in demand, not a change in price, quantity demanded.
PRICE DOESN’T SHIFT THE CURVE
● What causes a shift in demand?
○ 5 shifters (determinants) of demand
■ Tastes and preferences
■ Number of consumers
■ Price of related goods
■ Income
■ Future expectations
Practice:
Shifter
Increase/Decre
ase
Left or Right
Number of
1 Consumers
Increase
Right
2 Income
Decrease
Left
Price of
3 Related Goods Decrease
Left
4 No
No
No
Taste and
5 Preferences
Decrease
Left
Future
6 Expectations
Increase
Right
Price of
7 Related Goods Decrease
Left
8 No
No
No
● Supply defined
○ What is supply?
■ Supply is the different quantities of a good that sellers are willing
and able to sell (produce) at different prices.
○ What is the Law of Supply?
■ There is a DIRECT (or positive) relationship between price and
quantity supplied.
● *As price increases, the quantity producers make increases.
● As price falls, the quantity producers make falls.
○ Why? Because, at higher prices profit seeking firms have an incentive to
produce more.
■ Example: Dog Crap
● 5 Shifters (Determinants) of Supply
○ Prices/Availability of inputs (resources)
■ If oranges increase in price, you can’t make as much orange juice
○ Number of sellers
■ New vendors appear
○ Technology
■ Snowthrower vs snow shovel
○ Government action: Taxes and Subsidies
■ Subsidy: A subsidy is a government payment to a business or
market. Subsidies cause the supply of a good to increase.
○ Expectations of future profit
● A Change in price doesn’t shift the supply curve. It only causes a movement along
the curve.
Practice:
1. Strange virus kills 20% of cows
2. Price of hamburgers increase 30%
3. Government taxes burger producers
4. New bun baking technology cuts production time in half
5. The government subsidizes beef producers
6. Minimum wage increases to $20
Increase or
Decrease
Left or Right
Shifter
1 Decrease
Left
Resource
2 No
None
Price doesn't
shift
3 Decrease
Left
Government
tax
4 Increase
Right
Technology
5 Increase
Right
Subsidize
Left
Resource (give
employees a
raise = less
money making)
6 Decrease
_____________________________________________________________________________________________________
●
●
●
●
●
●
Price Elasticity of Demand
% Change: (New# - Old# / Old#) x 100
Price Elasticity of Demand (PED)
%change in Demand (Quantity) / %change in Price
Elasticity Coefficient
The law of demand says:
○ Consumers will buy more when prices go down and less when prices go
up.
● Elasticity is about determining how much more or how much less
● PED:
○ Measures how sensitive quantity demanded is to change in price
○ Knowing how consumers will respond to a change in price is extremely
useful to firms
● Why does elasticity matter?
○ It helps them decide what to charge and when, if ever, to have sales
○ It helps them determine how many substitute are in the market
○ It is also used by the government to decide when and how much to tax
● Inelastic Demand
○ Quantity is insensitive to a change in price
○ If price increases, quantity demanded will fall a little
○ If price decreases, quantity demanded increases a little
○ In other words, people will continue to buy it
○ An Inelastic demand curve is steep (Looks like an I)
_____________________________________________________________________________________________________
● Price Elasticity of Supply
○ Elasticity of supply show how sensitive producers are to a change in price.
■ Elasticity of supply is based on time
Inelastic Supply
General Characteristics of Inelastic Supply
1. Hard to produce
2. High barriers to entry
3. High cost or specialized inputs
4. Hard to switch from producing alternative goods
5. Elasticity coefficient less than 1
Elastic Supply
1. Easier to produce
2. Low barriers to entry
3. Low cost or generic inputs
4. Easy to switch from producing alternative
5. Elasticity coefficient is greater than 1
Cross-Price Elasticity of Demand (XED)
_____________________________________________________________________________________________________
Market Equilibrium and Consumer/Producer Surplus
Voluntary Exchange:
● You want to buy a truck so you go to the local dealership. You are willing to spend
up to $20,000 for a new 4x4. The seller is willing to sell this truck for no less than
$15,000. After some negotiation, you buy the truck for $18,000.
○ Analysis:
■ Buyer’s Maximum- $20,000
■ Seller’s Minimum- $15,000
■ Price- $18,000
■ Consumer Surplus- $2k
■ Producer Surplus- $3k
● Consumer surplus is the difference between what you are willing to pay and
what you actually pay.
○ Consumer Surplus = Buyer’s Maximum - Price
● Producer surplus is the difference between the price the seller received and how
much they were willing to sell it for.
○ Producer Surplus = Price - Seller’s Minimum
_____________________________________________________________________________________________________
Review:
● Explain the law of demand
○ Price up, quantity demanded down (inverse)
● Explain the law of Supply
○ Price up, quantity supplied up (direct)
● 5 shifters (determinants) of demand
○ Tastes and preferences
○ Number of consumers
○ Price of related goods
○ Income
○ Future expectations
● 5 Shifters (Determinants) of Supply
○ Prices/Availability of inputs (resources)
■ If oranges increase in price, you can’t make as much orange juice
○ Number of sellers
■ New vendors appear
○ Technology
■ Snowthrower vs snow shovel
○ Government action: Taxes and Subsidies
■ Subsidy: A subsidy is a government payment to a business or
market. Subsidies cause the supply of a good to increase.
○ Expectations of future profit
■ If the profit is expected to go up in the future
○ Taxes
● Define Subsidy
○ A subsidy is a government payment to a business or market. Subsidies
cause the supply of a good to increase.
● Explain why price doesn’t shift the curve
○ It moves along the supply curve, it does not move it.
● Define equilibrium
○ Supply and demand are balanced (quantity supplied = quantity
demanded)
● Define shortage
○ When there is not enough supply (quantity supplied < quantity
demanded)
● Define surplus
○ When there is not enough demand (quantity supplied > quantity
demanded)
Keys to Disequilibrium
● When there is either a surplus or a shortage (if Qs > Qd or Qs < Qd)
● Supply and Demand Analysis
○ Before the change
■ Draw supply and demand
■ Label original equilibrium price and quantity
○ The change
■ Did it affect supply or demand first?
■ Which determinant caused the shift?
■ Draw increase or decrease
○ After change
■ Label new equilibrium
■ What happens to the Price? (increase or decrease)
Analyze hamburgers (practice):
● New grilling technology cuts production in half
○ In this case, if the starting price is $8 and it increases due to a decrease in
supply, it would shift the price curve to the right, but the quantity curve
would stay the same, which in turn creates a new equilibrium.
I CANNOT DRAW LIKE THAT ON A CHROMEBOOK IT DOESN’T HAVE ANYTHING TO
DRAW WITH SORRY MR COIT BUT SAHN AND I DID IT TOGETHER
_____________________________________________________________________________________________________
Price Ceiling:
● Maximum legal price a seller can charge for a product.
○ Goal: Make affordable by keeping the price from reaching Eq.
○ Creates a shortage through the binding ceiling, since it’s below Eq.
○ Does this policy help consumers? No. Result: Black markets
Price Floor:
● Minimum legal price a seller can sell a product
○ Goal: Keep price high by keeping price from falling to Eq.
○ Creates a surplus through the binding floor, since it’s above Eq.
○ This policy helps producers
Practice Questions
1. Which of the following will occur if a legal price floor is placed on a good below
its free market equilibrium price?
a. Surpluses will develop
b. Shortages will develop
c. Underground markets will develop
d. The equilibrium price and quantity will remain the same
e. The quantity sold will increase
2. Which of the following statements about price control is true?
a. A price ceiling causes a shortage if the ceiling price is above the
equilibrium price
b. A price floor causes a surplus if the price floor is below the equilibrium
price
c. Price ceilings and price floors result in a misallocation of resources
d. Price floors above equilibrium cause a shortage
Are price controls good or bad?
● To be “efficient” a market must maximise consumers and producers surplus
○ Inefficiency = more dead weight loss
Excise Taxes
● Excise tax = a per unit tax on producers
● For every unit made, the producer must pay $
● NOT a lump sum
● The goal is for them to make less of the goods that the government deems
dangerous or unwanted.
I quite literally cannot get a picture of the graph in here on this computer, sorry. Trying
to get a new one.
Tax Practice
1. CS before tax
a. A B C D
2. PS before tax
a. H F G E
3. CS after tax
a. A
4. PS after tax
a. G
5. Tax Revenue for local government
a. B H C F
6. Deadweight loss assuming society wants Q2 produced
a. D E
7. Amount of tax revenue producers pay
a. H F
Quiz
1. CS Before tax
a. 3*90/2 = $135
2. Total expenditures before tax
a. 5*90 = $450
3. $2
4. 2*60 = $120
5. 6*60 = $360
6. $240
3.2
Short run is not a set specific amount of time
● A period in which at least one resource is fixed
○ plant/capacity size is not changeable
Long run ALL resource are variable
● No fixed resources
● plan/capacity size is changeable
Total Costs
● FC = Total Fixed Costs
● VC = Total Variable Costs
● TC = Total Costs
Per Unit Costs
● AFC = Average Fixed Costs
● AVC = Average Variable Costs
● ATC = Average Total Costs
● MC = Marginal Cost
Fixed Costs:
● Costs for fixed resources that DON’T change with the amount produced
○ Ex: Rent, Insurance, Managers Salaries, etc.
● Average Fixed Costs = Fixed Costs/Quantity
Variable Costs:
● Costs for variable resources that DO change as more or less is produced
○ Ex: Raw Materials, Labor, Electricity, etc.
○ Average Variable Costs = Variable Costs/Quantity
Total Cost:
● Sum of Fixed and Variable Costs
● Average Total Cost = Total Costs/Quantity
Marginal Cost:
● Additional costs of an additional output
○ Ex: if the production of two more units of output increase total cost
● Marginal Cost = Change in Total Costs/Change in Quantity
GRAPHS ON PAPER
3.3
Short-run and long-run are not specific amounts of time
● In the short-run, at least one resource is fixed
○ See above
● In the long-run, all resources are variable
The long-run is used for planning for firms to identify which size factory results in the
lowest per-unit cost
Returns to scale:
● If your output more than doubles then you have Increasing Returns to Scale
● If your output doubles then you have Constant Returns to Scale
Returns to scale is only looking at production, not costs
Long RUn ATC
What happens to the average total costs of a product when a firm increases its plant
capacity?
● Example of various plant sizes:
○ I make looms out of my garage with one saw
○ I rent out building, but 5 saws, hire 3 workers
○ I rent a factory, buy 20 saws and hire 40 workers
○ I build my own plant and use robots to build looms
○ I create plants in every major city in the US
● Long Run ATC curve is made up of all the different short run ATC curves of
various plant sizes.
Economies of Scale
● Why do economies of scale occur?
○ Firms that produce more can better use Mass Production Techniques and
Specialization
GRAPHS ON PAPER
3.4, 3.5
Revenue: Total income of a business
Cost: The amount of money being spent in a business (Total, fixed, variable)
Profit: Revenue - Cost = Profit (The amount of revenue left over after expenses)
Accounting profit: Total revenue - accounting costs (explicit only- rent, wages, material,
bills)
Economic profit: Total revenue - Economic costs (explicit + implicit)
Accountants look at only EXPLICIT COSTS
Economists examine both the EXPLICIT COSTS and the IMPLICIT COSTS
Practice:
David:
Revenue from sundaes: $2*5000=$10,000
Revenue from cones: $1*8000=$8,000
Total Monthly Revenue: $18,000
Rent is $1000: revenue now $17,000
All additional explicit costs add up to $9,000
Accounting profit now $8,000
Vacation: $5,000 (not an explicit cost, not related to his business)
Economic Profit = $0, as opportunity cost is $8,000 as well
Should he go back to being a lawyer? It doesn’t matter.
What must be true for accounting profit is economic profit is zero? The accounting profit and
the opportunity cost must be equal.
Profit Maximization (GRAPH)
Profit maximizing rule
mr=mc