Exam Review #3
Chapter 7
1. What is the difference between accounting costs and economic costs?
2. Do firms aim to maximize profit or revenue? What is the difference?
3. What are sunk costs? Why should they be ignored when making current decisions?
4. What is the relationship between labor (L), capital (K), and output?
5. What are diminishing marginal returns to labor? Why do they occur?
6. Do fixed short-run costs depend on a firm’s output level? Do variable short-run costs
depend on the firm’s output level? Why or why not?
7. Why must average fixed costs always decline with an increase in output?
8. At each level of output, the vertical distance between the average variable cost curve and
the average total cost curve is equal to the ___________________________. Why must
the ATC curve and the AVC curve get close and closer together as we move rightward?
9. The MC curve crosses both the AVC curve and the ATC curve at their respective
minimum points. Why?
10. The following table shows total output (in tax returns completed per day) of the
accounting firm of Hoodwink and Finagle:
Number of Accountants Number of Returns per Day
0
0
1
5
2
12
3
17
4
20
5
22
Assuming the quantity of capital (computers, adding machines, desks, etc.) remains
constant at all output levels:
a) Calculate the marginal product of each accountant.
b) Over what range of employment do you see increasing returns to labor?
Diminishing returns?
c) Explain why MPL might behave this way in context of an accounting firm.
Chapter 8
1. When a firm increases output (raises Q), ______________ rises. Explain why TR may
either rise or fall with an increase in output.
2. What is the least-cost rule?
3. For any linear demand curve, the marginal revenue curve is always ________ as steep.
4. What are the two equivalent approaches to determining profit-maximizing output level of
a firm?
5. Why should a firm choose a Q where MR is equal to MC in order to maximize its profits?
6. A firm is making negative total profits, however it chooses not to shut down. What does
this tell you about the firm’s operating profits?
7. A firm’s TR curve lies below the TC curve and the TVC curve. Should the firm shut
down or stay open? Why?
8. Why does optimal decision-making require us to examine marginal benefits and costs,
not average benefits and costs?
Chapter 9
1. Which is not a requirement of a perfectly competitive market?
a) Buyers and sellers are well-informed
b) There are a large number of buyers and sellers, and each buys or sells only a tiny
fraction of the total quantity in the market
c) Sellers can easily enter into or exist from the market
d) Sellers offer a standardized product
e) None of the above
2. In a perfectly competitive market, an individual decision maker can significantly affect
the price of the product. True or False? Why?
3. What will happen if a firm increases price above the market price? What does this say
about the demand curve?
4. For a competitive firm, marginal revenue is the same as market price. Why? What
relationship between the marginal revenue curve and the demand curve?
5. For short-run profit maximization, a firm should choose output such that marginal cost is
equal to what?
6. When does a firm earn a profit in the short-run? When does a firm suffer a loss in the
short-run?
7. When should a firm shut down in the short-run according to the shutdown rule from
chapter 9?
8. How does this relate to a firm’s supply curve?
9. How do you obtain a market supply curve?
10. In the long run, positive economic profit will attract new firms into the market. This will
cause the market supply curve to shift rightwards. Explain what will happen as the
market supply curve shifts rightward.
11. Why do competitive firms end up producing socially desirable goods and services using
as few of society’s resources as possible?