ECON 323: Exam 2

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Production

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Production transforms inputs into outputs.
-For instance, producing automobiles requires a variety of inputs (also called factors of production): raw materials (steel, plastic, rubber, and so on), factories, machines, land, and many different categories of workers.

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production function

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the relationship between quantity of inputs used to make a good and the quantity of output of that good
-The firm's production function indicates the maximum level of output the firm can produce for any combination of inputs.
-Q=F(L,K)

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short run

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the period of time during which at least one of a firm's inputs is fixed
-In the short run, one or more of the firm's inputs is fixed, that is, they cannot be varied.

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long run

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the time period in which all inputs can be varied
-In the long run, the firm can vary all of its inputs.

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fixed inputs (fixed costs)

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Factors of production that do not change with changes in the firm's level of output
Ex: rent, insurance
-Inputs that cannot be changed in the short run are called fixed inputs.

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variable input

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Any resource for which the quantity can change during the period of time under consideration
-labor is a variable input; that is, the firm can freely vary its number of workers.

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marginal product

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the increase in output that arises from an additional unit of input
-This marginal product is the additional output produced by an additional unit of labor, all other inputs held constant.

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Marginal Revenue Product

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the change in total revenue associated with one additional unit of input
-An input's marginal revenue product is the extra revenue that results from a unit increase in the input.
-MRPl= (MR)(MPl)

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Marginal cost of an input

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The marginal cost of an input is simply the amount an additional unit of the input adds to the firm's total cost.

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Returns to scale

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rate at which output increases as inputs are increased proportionately
-Returns to scale measure the percentage change in output resulting from a given percentage change in inputs.

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constant returns to scale

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the property whereby long-run average total cost stays the same as the quantity of output changes
-Constant returns to scale occur if a given percentage change in all inputs results in an equal percentage change in output.

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increasing returns to scale

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when long-run average total cost declines as output increases
-Increasing returns to scale occur if a given percentage increase in all inputs results in a greater percentage change in output.

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decreasing returns to scale

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when output increases less than in proportion to an increase in all inputs
-Decreasing returns to scale occur if a given percentage increase in all inputs results in a smaller percentage increase in output.

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Output elasticity

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percentage change in output resulting from a 1% increase in all inputs
-Output elasticity is the percentage change in output resulting from a 1 percent increase in all inputs. For constant returns to scale, the output elasticity is 1; for increasing returns, it is greater than 1; and for decreasing returns, it is less than 1.

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Isoquant

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a curve that shows all the combinations of two inputs, such as capital and labor, that will produce the same level of output
-An isoquant is a curve that shows all possible combinations of inputs that can produce a given level of output.

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Marginal Rate of Technical Substitution

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the rate at which labor substitutes for capital without affecting output
-The marginal rate of technical substitution (MRTS) denotes the rate at which one input substitutes for the other and is defined as

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linear production function

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A production function that assumes a perfect linear relationship between all inputs and total output.

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Production with fixed proportions

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opposite extreme from linear production: fixed proportions allow no input in substitutions
-Production with fixed proportions is the opposite extreme from linear production; fixed-proportions production allows no input substitution.

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opportunity cost

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Cost of the next best alternative use of money, time, or resources when one choice is made rather than another
-The opportunity cost associated with choosing a particular decision is measured by the benefits forgone in the next-best alternative.

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accounting profit

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total revenue minus total explicit cost
-Accounting profit is the difference between revenues obtained and expenses incurred.

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economic profit

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total revenue minus total cost, including both explicit and implicit costs
-Economic profit is the difference between revenues and all economic costs (explicit and implicit), including opportunity costs.

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sunk cost

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A cost that has already been incurred and that cannot be changed by any decision made now or in the future.
-A sunk cost is an expense that has already been incurred and cannot be recovered.

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Cost Function

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mathematical description of how a cost changes with changes in the level of an activity relating to that cost
-The cost function indicates the firm's total cost of producing any given level of output.

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average total cost

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total cost divided by the quantity of output produced
-Average total cost (or simply average cost) is total cost divided by the total quantity of output.

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average variable cost

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Variable Cost per Unit of output.
AVC = VC / Q

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Constant returns to scale

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the property whereby long-run average total cost stays the same as the quantity of output changes
-Constant returns to scale means that increasing all inputs by a given percentage (say, 20 percent) increases output by the same percentage.

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economies of scale

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factors that cause a producer's average cost per unit to fall as output rises
-Production exhibits increasing returns to scale, or equivalently, economies of scale if average cost falls as the firm's scale of operation increases.

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minimum efficient scale (MES)

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output range needed to bring down the cost per unit as much as possible, allowing a firm to stake out the lowest-cost position that is achievable through economies of scale
-Minimum efficient scale (MES) is the lowest output at which minimum average cost can be achieved.

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shut down rule

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a firm should shut down if the price falls below the minimum AVC

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Oligopoly

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An oligopoly is a market dominated by a small number of firms, whose actions directly affect one another's profits, making the fates of oligopoly firms interdependent.

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concentration ratio

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the share of industry output in sales or employment accounted for by the top firms
-The four-firm concentration ratio, abbreviated by CR4, is the percentage of sales accounted for by the top four firms in a market or industry.

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Effective Monopoly

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An effective monopoly is said to exist when the single-firm concentration ratio is above 90 percent, CR1 > 90.

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Effectively competitive

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A market is effectively competitive when CR4 is below 40 percent.

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loose oligopoly

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an oligopoly in which the top four firms account for 50-75 percent of the industry's total sales
-one often speaks of a loose oligopoly when 40 percent < CR4 < 60 percent

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tight oligopoly

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An industry in which the top four firms account for 75 percent of the market sales
-a tight oligopoly when CR4 > 60 percent.

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Prisoner's Dilemma

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So frequent are situations (like the preceding example) in which individual and collective interests are in conflict that they commonly are referred to as the prisoner's dilemma.

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strategic substitutes

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Resources or capabilities that serve to neutralize a competitors previously effective barrier to imitation
-We say that the firms' actions are strategic substitutes when increasing one firm's action causes the other firm's optimal reaction to decrease.

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question

Production

answer

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production function

answer

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short run

answer

the period of time during which at least one of a firm's inputs is fixed
-In the short run, one or more of the firm's inputs is fixed, that is, they cannot be varied.

question

long run

answer

the time period in which all inputs can be varied
-In the long run, the firm can vary all of its inputs.

question

fixed inputs (fixed costs)

answer

Factors of production that do not change with changes in the firm's level of output
Ex: rent, insurance
-Inputs that cannot be changed in the short run are called fixed inputs.

question

variable input

answer

Any resource for which the quantity can change during the period of time under consideration
-labor is a variable input; that is, the firm can freely vary its number of workers.

question

marginal product

answer

the increase in output that arises from an additional unit of input
-This marginal product is the additional output produced by an additional unit of labor, all other inputs held constant.

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Marginal Revenue Product

answer

the change in total revenue associated with one additional unit of input
-An input's marginal revenue product is the extra revenue that results from a unit increase in the input.
-MRPl= (MR)(MPl)

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Marginal cost of an input

answer

The marginal cost of an input is simply the amount an additional unit of the input adds to the firm's total cost.

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Returns to scale

answer

rate at which output increases as inputs are increased proportionately
-Returns to scale measure the percentage change in output resulting from a given percentage change in inputs.

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constant returns to scale

answer

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increasing returns to scale

answer

when long-run average total cost declines as output increases
-Increasing returns to scale occur if a given percentage increase in all inputs results in a greater percentage change in output.

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decreasing returns to scale

answer

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Output elasticity

answer

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Isoquant

answer

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Marginal Rate of Technical Substitution

answer

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linear production function

answer

A production function that assumes a perfect linear relationship between all inputs and total output.

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Production with fixed proportions

answer

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opportunity cost

answer

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accounting profit

answer

total revenue minus total explicit cost
-Accounting profit is the difference between revenues obtained and expenses incurred.

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economic profit

answer

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sunk cost

answer

A cost that has already been incurred and that cannot be changed by any decision made now or in the future.
-A sunk cost is an expense that has already been incurred and cannot be recovered.

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Cost Function

answer

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average total cost

answer

total cost divided by the quantity of output produced
-Average total cost (or simply average cost) is total cost divided by the total quantity of output.

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average variable cost

answer

Variable Cost per Unit of output.
AVC = VC / Q

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Constant returns to scale

answer

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economies of scale

answer

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minimum efficient scale (MES)

answer

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shut down rule

answer

a firm should shut down if the price falls below the minimum AVC

question

Oligopoly

answer

An oligopoly is a market dominated by a small number of firms, whose actions directly affect one another's profits, making the fates of oligopoly firms interdependent.

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concentration ratio

answer

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Effective Monopoly

answer

An effective monopoly is said to exist when the single-firm concentration ratio is above 90 percent, CR1 > 90.

question

Effectively competitive

answer

A market is effectively competitive when CR4 is below 40 percent.

question

loose oligopoly

answer

an oligopoly in which the top four firms account for 50-75 percent of the industry's total sales
-one often speaks of a loose oligopoly when 40 percent < CR4 < 60 percent

question

tight oligopoly

answer

An industry in which the top four firms account for 75 percent of the market sales
-a tight oligopoly when CR4 > 60 percent.

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Prisoner's Dilemma

answer

So frequent are situations (like the preceding example) in which individual and collective interests are in conflict that they commonly are referred to as the prisoner's dilemma.

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strategic substitutes

answer

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ECON 323: Exam 2

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