basic economics 1

8/6/2019 Basic Economics 1

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Q No. 17 State and explain Law of Variable Proportions with the helpof table and figure also discuss different Stages ofProduction.

IntroductionThe Law of Variable Proportions seeks to analyse the effects of successive labourunits engaged in the production process on the total output. It is generally observedthat TP changes in three different phases when successive labour units are engagedin the production process.i.e. L TP is increasing at an increasing rate(MP is rising) (Phase-I)

LTP is increasing at a decreasing rate (MP is falling) (Phase-II)LTP will start falling (MP is negative) (Phase-III)

Statement of the lawIn the words of Pawl A. Samuelson:

An increase in some inputs relative to other comparativelyfixed input will cause output to increase but after a point theextra output resulting from the same addition of input will

become less and less.According to Prof. Ben ham:

As the proportion of one factor in a combination of factors isincreased, after a point first the marginal and then the averageproduct of that factor will diminish.

ExplanationFrom the above statement it appears that both MP and AP will be increasing for theengagement of initial labour units engaged in the production process however atsome point first the MP and then the AP will be diminishing, such description in termsof following stages of production.

Stages of Production

The entire production process has been divided in terms of different stages ofproduction as defined below:-Stage-I (Increasing Returns Stage)In this stage both the MP and AP are increasing forsuccessive labour units engaged in the productionprocess. However, the value of MP will remain greaterto the value of AP.

i.e. L MP>APThis stage will continue to exist till a point comes whenboth the MP and AP become equal to each other.Stage-II (Decreasing Returns Stage)

In this stage when successive labour units are engaged in the production processthen MP will be diminishing and remains below to the decreasing AP.

i.e. L MP


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We can understand working of this law with the help of following table and figure:-

In the above table and figure we have explained the working of the law ofvariable proportion against different labour units engaged in the production process.When the first labour unit is engaged in the production process the 100 units ofoutput are produced of the commodity indicating the beginning of Stage-I. MPcontinues to increase till the third labour unit indicating increasing return stage. Forthe fourth labour unit both AP and MP become equal to each other indicating the endof Stage-I and beginning of Stage-II. This decreasing returns stage continues till thesixth labour unit where MP becomes zero. For the seventh labour unit MP becomesnegative indicating the negative returns stage. In this way a producer has to pass onto variable proportions of TP and labour units engaged in the production process.

AssumptionsThe LVP is applicable when the following assumptions do persist in the economy.

1- Technology:It is assumed that state of technology is not changed during the production process.

2- Homogeneous labour units:

It is assumed that all labour units are homogenous with respect to their productiveefficiency. This is because any change in them would seas the working of the law.3- Perfect competition:

It is assumed that conditions of perfect competition exist both in product and factormarket.

4- Imperfect substitutes:It is assumed that different factors of production are imperfect substitutes to eachother.

58789678.doc B.Com-I Mohammad Kashif Hayat

L TP AP MP Remarks

1 100 100 -

Stage-I

2 250 125 150

3 450 150 2004 600 150 150

5 700 140 100Stage-II

6 700 116.6 0

7 650 92.8 -50 Stage-III

2

0

100

200

300

400

500

600

700

1 2 3 4 5 6 7

TP

TP

-50

0

50

100

150

200

1 2 3 4 5 6 7

AP

MP

AP/MP


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5- Short-run analysis:This law in only applicable in the short-period this is because in the long-run otherfactors cannot be kept constant.Question: Define the Cost Function discuss different concepts of Short-periodCost Function and their mutual relationship?

IntroductionThe term Cost of Production refers to the total amount in cash that a producer

has to bear for producing certain units of output in the form of cages, rent, interest,profit, utility charges etc.

Cost Function:-Cost function defines direct mutual relationship between Cost of Production and

units of output produced.i.e. C = f(q)

q Cq C

In short period the time span (gap) is quite limited and hence certain factorsare supposed to be fixed while some factors remain variable. This is why we classify

these costs of production as fixed cost of production and variable cost of productionin the short period.

Concepts of Short-period Cost Function :-Followings are the important concepts:-1) Total Fixed Cost (TFC)TFC is the total amount in cash that is not affected by the units produced of thecommodity and always remains fixed or constant.

i.e. TFC f (q) = K (Constant)TFC includes rent of the building, salaries of administrative staff, utility bills etc.2) Total Variable Cost (TVC)TVC is the total amount in cash that a producer spends for producing units of

output such as wages to casual labours, cost of raw material, transportationcharges, utility bills etc. TVC is directly related with the quantity produced.

i.e. TVC = f (q)q TVCq TVC

3) Total Cost (TC)TC includes all those expenses in cash that a producer spends over theproduction of certain units of output which are having relationship with thequantity produced or not. TC includes both TVC and TFC.i.e. TC = TFC+TVC

TC = f (q)

4) Average Fixed Cost (AFC)AFC is defined as TFC per unit of output produced. In simple to get AFC wedivide TFC by the units of output produced.

i.e.q

TFCAFC =

The numerical values of AFC will be continuously decreasing for further units ofoutput produced.5) Average Variable Cost (AVC)


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AVC is defined as TVC per unit of output produced. In simple to get AVC wedivide TVC by the units of output produced.

i.e.q

TVCAVC =

The values of AVC have the characteristic that at an initial stage they startdecreasing and after reaching to some minimum they start rising. The graph ofsuch values will be U shaped.

6) Average Total Cost (ATC)ATC is defined as TC per unit of output produced. In simple to get ATC wedivide TC by the units of output produced.

i.e.

ATC = AFC + AVCIt means ATC can also be calculated by adding up the values of AFC and AVC.7) Marginal Cost (MC)The term MC is defined as the rate of change in units of TC to the change inunits produced.

i.e.qTCMC

=

If successive units of output are produced then MC is simply the change in theunits of TC.

Relationship between TFC,TVC and TC :-Since we have studied that TC can be calculated by adding both TFC & TVC

and therefore there exist a very important relationship between these concepts.Similarly TFC is a constant value for units of output produced. This is why we havevery important mutual relationship between these concepts that can be well observedwith the help of following table and figure.

From the above table and figure we observe that TFC is a straight line parallelto quantity axis. Graphically TFC has zero slope. However, the graph of TVC startsfrom the origin and has reverse S-shape. The TC curve is parallel to TVC curvebecause in between them constant TFC is existing. The TC curve starts from thevalue 10 which is TFC. Mutual relationship between AFC, AVC, ATC and MC :-

Since we have studied that ATC can be calculated by adding of both AFC andAVC and hence there exist mutual relationship between them. Similarly MC can only58789678.doc B.Com-I Mohammad Kashif Hayat

q TFC TVC TC0 10 - 10

1 10 5 15

2 10 9 19

3 10 12 22

4 10 14 24

5 10 18 28

6 10 23 33

7 10 30 40

8 10 40 50

4

q

TVC

q

TFC

q

TVCTFC

q

TCATC +=

+==

Total Cost Concepts

05

10

152025

30

35

4045

50

1 2 3 4 5 6 7 8

Units of output

Cost

TC

T

Cost

q


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be calculated if we are given TC. From all such discussion we can find out veryimportant mutual relationship between different average and MC concepts as explainin the following table and figure.

q TFC TVC TC AFC AVC ATC MC

1 10 5 15 10 5 15 -

2 10 9 19 5 4.5 9.5 4

3 10 12 22 3.33 4 7.33 34 10 14 24 2.5 3.5 6 2

5 10 18 28 2 3.6 5.6 4

6 10 23 33 1.67 3.8 5.5 5

7 10 31 41 1.42 4.4 5.82 8

8 10 40 50 1.25 5 6.25 9

We can explain the relationship between different Average concepts whileobserving the above-illustrated figure A. We have plotted different Average Costconcepts for different units of output produced. Both AVC and ATC curves are Ushaped. For initial level of output the graph between them is with quite large gap that

narrows down as more units of output are produced. Here in the figure 1st theminimum of AVC comes and then minimum of ATC respectively. The AFC curve iscontinuously decreasing showing convex to the origin. However in figure B weobserve that MC curve and ATC curve when they are falling for the initial levels of output respectively. However, when MC start raising then it passes initially through theminimum of AVC and then from the minimum of ATC. After this MC lies above to bothAVC and ATC.

___________________________________________________________________


5

AFC/AVC/ATC

1 2 3 4 5 67 8

1

2

34 5 6 7

8

1

23

4 5 6 7 8012345678910

1112131415

1 2 3 4 5 6 7 8

units of output produced

Cost

AVC/ATC/MC

0123456789

101112131415

1 2 3 4 5 6 7 8

MC

ATC

AVC

ATC

AFC

AVC

0123456789

101112131415

1 2 3 4 5 6 7 8

Units of output produced

Cos

t

AVC/ATC/MC/AFC

MC

ATCAVC

AFC

q q

A B

A+B


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Question(A) Define the Perfect Competition?(B) Write down important features or characteristics of perfect

Competition.(C) Explain the nature of revenue curve under the conditions of PC.

IntroductionPerfect Competition is a kind of classical market structure where

demand and supply forces are allowed to operate freely without governmentinvolvement. However we can define the perfect competition in the following words:-

Perfect Competition is a kind of market structure wherelarge number of buyers and sellers transact homogenous

product while having perfect knowledge about the marketconditions and further Govt. does not affect the marketforces.

From the above definition of Perfect Competition we can list downfollowing important features or characteristics of perfect competition i.e

1. Large number of buyers and sellers:-

In perfect competition large number of producers share the market supply. So thateach seller has a nominal share in the market supply so that no single seller canaffect the market conditions. Similarly large number of consumers shares nominalportion of the market demand so that no single consumer can affect the marketconditions.

2. Homogeneous products:-In Perfect Competition large number of producers produce same types ofcommodities with respect to their quality, quantity, colour, packing etc.

3. Free entry and exit of firms:-In Perfect Competition all the firms are free to enter in the industry if they find profitwithout any restriction. Similarly any of the existing firms may leave the industry

without having any problem if it find loss.4. Free market mechanism:-

In Perfect Competition market forces i.e. demand and supply are free to operatewhile government does not play its role in economic conditions of the country.

5. Profit maximisation:-Every perfect competitive firm is being producer always desire to produce that outputlevel where its profit remains is maximum.

6. Perfect knowledge:-In perfect competition all the buyers and sellers have perfect knowledge aboutmarket conditions. It means no buyer or seller can deceive to each other.

7. Perfect mobility of factors of production:-

In perfect competition all the factors are perfectly mobile from one place to anotherfor better return.

Revenue curves under perfect competition:-Under the conditions of perfect competition price of the commodity remains

constant for all the firms working in the industry and for the same producedi.e. P = P (Constant)


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0

1

2

3

0 1 2 3 4

The term revenue refers to the total amount that a producer receives after sellinghis product in the market.i.e. TR = P x quantityOr TR = P x q

P q TR

Rs. 2 0 -

Rs. 2 1 2Rs. 2 2 4

Rs. 2 3 6

Rs. 2 4 8

From the above table and figure we observe that the shape of TR under the conditionof PC is straight line starting from origin it remain straight line due to constant price.

Average Revenue (AR):-The term AR refers to the TR per unit of the commodity sold. AR is calculated by

dividing the units of TR by the units of the commodity sold i.e.q

TRAR=

PAR

P

=

==

q

.qPAR

It means AR is same as the constant price of the commodity.

Marginal Revenue (MR):-MR is the rate of change in the units of TR when some additional units of thecommodity are sold. i.e.

PMR

q

.

q

).(

q

TRMR

=

=

=

=

qPqP

From this it appears that both AR and MR are equal to each other because both aresame to the constant price. i.e.AR = MR = P

We can observe the same with the help of following table and figure:-

In the above table and figure we have observed shape of AR and MR are parallel tothe quantity axis and having zero slope.


P q TR AR MR

Rs. 2 0 - - -

Rs. 2 1 2 2 2

Rs. 2 2 4 2 2

Rs. 2 3 6 2 2

Rs. 2 4 8 2 2

7

TR

TR

0

2

4

6

8

10

0 1 2 3 4

q

q

AR=MR=P


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Q No. 20 Price equilibrium under perfect competition OR Price and outputdetermination

A perfect competitive firm being a producer always desires to determine theprice and output level that maximises the profit. The perfect competitive firm is set tobe in equilibrium when it maximises its profit. The price and output that aredetermined will be called equilibrium price and output. When a firm gets equilibriumthen it has no incentive to increase or decrease its output.

In perfect competitive conditions the price of the commodity is determined inthe industry at that level when both demand and supply forces become equal to eachother. However, all the firms are price takers so that is why they are bound to followthat price.

In the above figure A we find out the equilibrium of the industry when bothdemand and supply forces have become equal to each other. This equilibriumdetermines the price level ( P ). All the firms are bound to follow that price. That iswhy in figure B the firm is having the same price ( P ) for which;

AR = MR = P

For determining the equilibrium quantity for a perfect competitive firm followingconditions must be satisfied:-

Conditions of Equilibrium1) Necessary condition

MR = MC2) Sufficient condition

MC should cut MR with raising trend at the point where MR = MC.

From the above conditions of equilibrium we can understand that profit of aperfect competitive firm can only be maximise if MC cuts MR.

In the short period we may have four different possibilities depending upondifferent cost situations.

1. Abnormal ProfitThe term abnormal profit defines a situation when the perfect competitive firm

gets equilibrium at a point where revenue exceeds cost or become greater thancost.

The extra revenue over cost will be termed as abnormal profit.i.e. AR > ATC (TR/q > TC/q)


8


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or TR > TCor Profit > 0 (If TR will be greater than TC then there must be some profit)We can illustrate the same in the following diagram:

TC = Oq1ab, TR = Oq1E P = TR - TC = Oq1E P - Oq1ab

= abE PExplanation:

In the above figure abnormal profit is explained under perfectcompetition. Conditions of equilibrium are satisfied at point E which means thatthe firm will have to produce Oq1 level of output and to charge price O P . Itmeans that the firm is having total revenue Oq1, O P and total profit that the firmis getting is abE P as shown with the shaded area in the diagram.

2. Normal ProfitThe term Normal profit refers to a situation when the perfect competitive firm

finds total revenue equals to total cost when conditions of equilibrium aresatisfied. Salary is included in TC, producer is having no extra profit and no loss.

i.e AR = ATC (TR/q = TC/q),or TR = TCor Profit = 0 (If TR and TC will be equal to each other then there will be

no profit)We can illustrate the same in the following diagram:

TC = Oq1E P , TR = Oq1E P = TR - TC


9


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= Oq1E P - Oq1E P = 0

Explanation:In the above figure Normal profit is explained under perfect competition.

Conditions of equilibrium are satisfied at point E which means that the firm willhave to produce Oq1 level of output and to charge price O P . It means that thefirm is having total revenue Oq1, O P . In this figure as you see that the produceris having no extra profit and no loss but remember that the salary of producer isincluded in the total cost.

3. Normal LossThe term Normal loss defines a situation when the perfect competitive firm is

not covering some part of its fixed cost (FC) while variable cost (VC) is completelycovered at equilibrium.

The uncovered area of TFC is known as normal loss.i.e TC = TFC + TVCand in this paragraph we explained iti.e AR < ATC (TR/q < TC/q)or TR


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Explanation:In the above figure Shutdown point has plotted and explained under

perfect competition when conditions of equilibrium are satisfied at point E. Asyou see that AVC is making tangent over the price line it means that AVC is justtouching the price line, which means that the price has become very low i.e P sothat it hardly covers the variable or running cost. However fixed cost is completely

uncovered. If price of the commodity even slightly comes down form the presentlevel then the producer will shut his production that is why equilibrium point E iscalled the shutdown point.

Long run equilibrium under perfect competitionThe long period is composed of time span in which a producing firm can

adjust its production according to the market requirements. New firm can enter intothe industry if they see profit however loss-earning firms can leave the industry if theywish. When new firms will enter into the industry then the market supply willautomatically increase which reduces the price of the commodity due to which theprofit of the existing other firms starts decreasing. This process continues till at theend each and every firm just gets normal profit under the conditions of perfect

competitions.Abnormal profit

Incentive for new firms to enter in the industry

Market supply increases

Price of the commodity decreases

Profit of each firm falls

Every firm gets normal profit under perfect competition


11


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LMC = Long-run Marginal CostLAC = Long-run Average Cost

Explanation:In the above figure we have explained that LMC curve cuts MR curve from below

where LMC = MR and the firm in equilibrium at point E. The equilibrium output isOq1 the firm is earning just normal profit as AR = LAC at E. Thus the long periodequilibrium of the firm is denoted by AR = MR = LAC = LMC at point E. Since theequilibrium point E is lying at minimum average cost, therefore, the firm is called anOptimum firm. All the firms under perfect competition are of optimum size in thelong run.

___________________________________________________________________


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Q Define Monopoly, write down main features of monopoly and discuss thenature of revenue curve under monopoly.

INTRODUCTIONThe term monopoly is composed of two different words that are Mono and

Poly which means Single and Producer respectively. It is that kind of marketstructure in which single producer or producing firm has the sole authority over theproduction or distribution of the particular commodity. For example WAPDA is

monopolist regarding the distribution of electricity. New firms are completely bannedfor the entrance in the market. However we can define the monopoly as follows:

DEFINITION: In the words of Prof. A.J. Braff:- Under pure monopoly there is a single seller in

the market. The monopolists demand is marketsdemand. The monopolist is a price maker havingnone substitute situation.

From the above definition we can easily conclude three important factors that confirmthe monopoly market.

i) There is single producer or seller in the marker of the product in the entiremarket.

ii) New firm can not enter into the production set-up because of strongrestrictions.

iii) There is no close substitute in the market of the product.

Features of monopoly:-1.. Single seller:In monopoly market there is only one producer or seller of the product and thereis no close substitute available.2.. Price maker:In monopoly market as there is only one producer or seller of the product so thatis why he is the price maker of his own choice because there is no close

substitute available.3.. Firm and Industry analysis:There is no difference between firm and industry because there is singleproducing firm and new firms cannot enter into the set-up.4.. Downward sloping of demand curve:The demand curve in monopoly slopes form left to right downward that show theexistence of law of demand, so law of demand is fully applicable in case ofmonopoly. However MR is also negatively sloped but at a faster rate than theprice line.

= dEPMR

1

1

1>dE 0>MR1=dE 0=MR1


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In the above formula relationship is developed between MR, Price and Ed. Whendemand is elastic then MR remains positive and Ed becomes unitary then MRbecome nil and for inelastic demand MR is in negative. This is why we havenegatively sloped MR sharply decreasing comparing to AR or price line.REVENUE CURVES UNDER MONOPOLY

We are quite familiar of the fact that monopoly is market structure where singleproducer enjoys the sole authority over the production and price determination of acommodity. Further no close substitute exists of the commodity and hence themonopolist remains price maker means charges the price of his own choice. From allsuch discussion we can perceive that the shape of TR will be non-linear becauseboth price and quantity are variable and the law of demand persist s in market.

Hence: TR = P.qDue to the non-linear nature we will be having Hill-shapes ( ) graph of TR.

P q TR

Rs. 10 - -

Rs. 9 1 9Rs. 8 2 16

Rs. 7 3 21

Rs. 6 4 24

Rs. 5 5 25

Rs. 4 6 24

Rs. 3 7 21

In the above table and figure we have explained nature of TR. When the price of the

commodity is decreasing and units sold of the commodity are increasing here weobserve that the shape of total revenue is Hill-shaped having three stage of changei.e.

1. Rising2. Reaching to max.3. Then starts diminishing.

Average Revenue (AR):AR is defined as TR per units of the commodity sold. It is calculated by dividing unitsof TR by the units of the commodity soled i.e.

Marginal Revenue (MR):AR is defined as MR refers to the rate of change in the units of TR to the change insome units of the commodity sold.

P q TR AR MR


14

TR

TR

0

5

10

15

20

25

30

1 2 3 4 5 6 7

q

AR/MR

-4

-2

0

2

4

6

8

10

1 2 3 4 5 6 7

q

TRMR

=

)(

.

1qfPAR

qqPAR

q

TRAR

==

=

=


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Rs. 10 - - - -

Rs. 9 1 9 9 9

Rs. 8 2 16 8 7

Rs. 7 3 21 7 5

Rs. 6 4 24 6 3

Rs. 5 5 25 5 1

Rs. 4 6 24 4 -1

Rs. 3 7 21 3 -3

In the above table and figure we have plotted both AR and MR lines having iveslope. However MR has sharp change comparing to AR. This is why MR lies below toAR.

Q How price and output can be determined under monopoly condition.OrDiscuss equilibrium of a monopolist.

INTRODUCTIONA monopolist being a producing unit always desires to produce that much units ofoutput of the commodity and charge that much price where profit remains maximum.The monopolist can find out the equilibrium at that point where following conditions ofequilibrium are satisfied.

Conditions of Equilibrium1) Necessary condition

MR = MC2) Sufficient condition

Slope of MR < Slope of MC3) Other condition

Ed > 1 at that output level where MR=MC.

Considering these conditions we can find out the price and output as explained inthe following figure:-

In the above figure equilibrium of the monopolist is stated when conditions ofequilibrium are satisfied. Here at point E all the conditions are satisfied which


15

Ed>1(TR is rising)

Ed


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means that the monopolist should produce Oq1 level of output and have tocharge OP price, to maximise his profit. A profit maximising monopolist alwaysdesires to charge that much price level that remains greater to MC.In short period a monopolist may find any one of the following three-equilibriumsituation i.e.

1. Abnormal ProfitThe term abnormal profit defines a situation when a monopolistic firm gets

equilibrium at a point where revenue exceeds cost or become greater than cost.The extra revenue over cost will be termed as abnormal profit.

i.e. AR > ATC (TR/q > TC/q)or TR > TCor Profit > 0 (If TR will be greater than TC then there must be some

profit)We can illustrate the same in the following diagram:

TR = Oq1a P , TC = Oq1bc = abc P

In the above figure abnormal profit is explained under monopoly. Conditions ofequilibrium are satisfied at point E which means that the firm will have toproduce Oq1 level of output and to charge price O P . It means that the firm ishaving total revenue Oq1, O P and total profit that the firm is getting is abc P asshown with the shaded area in the diagram.

2. Normal ProfitThe term Normal profit refers to a situation when the monopolistic firm finds

total revenue equals to total cost when conditions of equilibrium are satisfied.Salary is included in TC, producer is having no extra profit and no loss.


no profit)

We can illustrate the same in the following diagram:


16


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TC = Oq1bc, TR = Oq1a P = TR - TC = -(abc P ) (as the value of TR is less than TC so there will be ive sign)

In the above figure Normal loss is explained under monopoly. Conditions ofequilibrium are satisfied at point E which means that the firm will have toproduce Oq1 level of output and to charge price O P . It means that the firm ishaving total revenue Oq1, O P and total cost with the area Oq1ab. Normal lossthat the firm is getting is abc P as shown with the shaded area in the diagram.Long run equilibrium under monopolyThe long period is composed of time span in which a producing firm can adjust its

production according to the market requirements. During the adjustment themonopolist may find equilibrium at any point when AC is weather decreasing,reaching to minimum and even with rising trend. However it is important to note that

the monopolist will always be having abnormal profit in the long run while thecondition of equilibrium are satisfied. We can illustrate this long run equilibrium in thefollowing figure.

TR = Oq1a P , TC = Oq1bc = abc P


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In the above figure long run equilibrium of the monopolist is illustrated when entryof new firm is totally restricted in the market. Conditions of equilibrium aresatisfied at point E which means that the firm will have to produce Oq 1 level ofoutput and to charge price O P . It means that the firm is having total revenueOq1, O P and total profit that the firm is getting is abc P as shown with theshaded area in the diagram. If any monopolist faces loss in the long run then hewill not be able to stay in the business anymore.

_________________________________________________________________


19


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Q No. 23 Define Monopolistic Competitive market structure:Discuss different features of monopolistic competition.

A No. 23Introduction:-

STILL TO TYPE

Q No. 24 Discuss price and output determination under monopolisticcompetition.A No. 24Introduction:-The monopolist competitive firm is price maker for its own brand of the product.However close substitutes for the product are available in the market and therefore,the demand curve or price line is fairly elastic. Being a producer the monopolisticcompetitive firm tries to maximise the profit while producing certain units of outputand charging certain price level. This situation can be found at a point wherefollowing conditions of equilibrium are satisfied.

Conditions of Equilibrium

4) Necessary conditionMR = MC

5) Sufficient conditionSlope of MR < Slope of MC

6) Other conditionEd > 1 at that output level where MR=MC.

In monopolist competitive market a firm can find its equilibrium with any one of thefollowing three-equilibrium situation i.e.1. Abnormal Profit

The term abnormal profit defines a situation when a monopolistic competitivefirm gets equilibrium at a point where revenue exceeds cost or become greater

than cost. The extra revenue over cost will be termed as abnormalprofit.

i.e. AR > ATC (TR/q > TC/q)or TR > TCor Profit > 0 (If TR will be greater than TC then there must be some

profit)We can illustrate the same in the following diagram:


20


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TR = Oq1a P , TC = Oq1bc = abc PIn the above figure abnormal profit is explained under monopolistic

competition. Conditions of equilibrium are satisfied at point E which means that thefirm will have to produce Oq1 level of output and to charge price O P . It means thatthe firm is having total revenue Oq1, O P and total profit that the firm is getting is abc

P as shown with the shaded area in the diagram.

2) Normal ProfitThe term Normal profit refers to a situation when the monopolistic competitive

firm finds total revenue equals to total cost when conditions of equilibrium aresatisfied. Salary is included in TC, producer is having no extra profit and no loss.


no profit)We can illustrate the same in the following diagram:

TC = Oq1a P ,TR = Oq1a P = TR TC = 0In the above figure Normal profit is explained under monopolistic competition.

Conditions of equilibrium are satisfied at point E which means that the firm will haveto produce Oq1 level of output and to charge price O P . It means that the firm ishaving total revenue Oq1, O P . In this figure as you see that the producer is having


21


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no extra profit and no loss but remember that the salary of producer is included in thetotal cost.3) Normal Loss

The term Normal loss defines a situation when the monopolistic competitivefirm is not covering some part of its fixed cost (FC) while variable cost (VC) iscompletely covered at equilibrium.

The uncovered area of TFC is known as normal loss.i.e TC = TFC + TVCand in this paragraph we explained iti.e AR < ATC (TR/q < TC/q)or TR


23/27

In the above figure the demand curve has shifted to downward indicating theentrance of new firms in the product group this process of adjustment continues tillfinally all the firms in the market will be earning just normal profit in the long run wecan illustrate this long run normal profit in the following figure.

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23


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QUADRATIC EQUATIONax2+bx+c=0

a

acbbx

2

42

=

HOW TO SOLVE QUADRATIC EQUATIONQuestion:-

4)-3(x1)-6x(x- =Solution:-

04x2x-

03

)4x(-2x33

0

3

123x6x-

b/son3byDividing

0123x6x2-

1212-3x-3x23x-6x6x2-

b/son12addand3xSubtract

12-3x6x6x2-

12-3x(-6x)-6x2-

4)-3(x1)-6x(x-

2

2

2

=++

=/

++/

=++

=++

+=++

=+

=

=

a = -2, b = 1, c = 4

a

acbbx

2

42

=

4

74.51

4

331

4

3211

)2(2

)4)(2(411 2

=

=

+=

=

either 4

74.51

+

=x or 4

74.51

474.4

=x or

474.6

19.1=x or 69.1=x

Check:When x = -1.19L.H.S


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15.6-

(-2.19)14.7

1)--1.19-6(-1.19)(

1)--6x(x

=

=

=

=

R.H.S

15.6-

3(-5.19)

4)--1.19(3

4)-(x3

=

=

=

=

Since L.H.S = R.H.S for x = -1.19

When x = 1.69L.H.S

6.9-

(0.69)14.10

1)-.69-6(1.69)(1

1)--6x(x

=

=

=

=

R.H.S

6.9-

3(-2.31)

4)-1.69(3

4)-(x3

=

=

=

=

Since L.H.S = R.H.S for x = -1.61


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DerivativesThe term derivative refers to the instantaneous (sudden) rate of change in dependentvariable due to the change in the independent variable.

If )(xfy =

)(xfdx

dy=

Rules of derivatives:

1. Constant rule: Derivative of a constant will always be zero. i.e.If kxfy == )(

2. Derivative of xn : Derivative of the variable xn will be nxn-1

i.e

3. General rule of a power function: If we are given a function raised to

the power n then its derivative will be .i.e

4. Constant times a function: Derivative of constant times function will be

the constant times the derivative of the function.i.e

5. Derivative of sum or difference of different functions:

If two different functions are added or subtracted then their derivatives will bethe sum or difference of their respective derivatives.

i.e

6. Multiplication rule

If two different functions are multiplied then their derivatives will be the 1st

function multiplied by derivative of 2nd function plus 2nd function multiplied byderivative of 1st function.

i.e

7. Division rule: Derivative of quotient of two different functions and will

be: i.e

Applications of derivative:-The term derivative measures the rate of change in a variable whereas in economicsthis concept is used in different field of study.We can calculate following important concepts while using the concept of derivative.i.e.

i) In finding marginal concepts.ii) In finding slope of any given function.iii) In finding elasticity of demand or supply.

Slope ofSlope of


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Constant will be TFC in the equation

Slope ofSlope of

Qd = 10 - 2P

MAXIMA and MINIMAStep 1:- Calculate and put it equal to zero and solve for x.Step 2:- Find and check the sign.If < 0 (means ive) then the function will be maximum.If > 0 (means +ive) then the function will be minimum.If = 0 then the second derivative fails.

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basic economics 1

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