Producer Theory and Theory of the Firm Reviewer

By the lovely lady Elise Angela H. Espinosa (pagbigyan )

Answers to Questions in the Syllabus

**By the way, I use the exclamation point and asterisk A LOT!**

I. PRODUCER THEORY

A. PRODUCTION

1. What is the Production Function?

Specifies the maximum output that may be produced given a

specific qty of input

2. What are the different product concepts?

a. TOTAL PRODUCT (TP)

- total physical product or total amount of output

- if we know the TOTAL PRODUCT, it’s easy to get the MP

naaaa yay because calculus <3

b. MARGINAL PRODUCT (MP)

- marginal means “extra”

- extra output for every additional unit of input ceteris

paribus

c. AVERAGE PRODUCT (AP)

- total output divided by the total input

**Everything sounds so easy lang, noh? HUHU parang love

poems lang sa English #econatwork**

3. What is the Law of Diminishing Marginal Returns (LDMR)?

- Meron bang hindi nakakaalam nito?

- less and less extra output as more and more input is added

ceteris paribus

4. What explains LDMR?

- because everything else is held constant because forever

favorite natin ang ceteris paribus!

- for example:

If given 4 hours to study, as you put more and more things

on your to-do list, nagdidiminish yung returns mo right?

Since CONSTANT yung time period of studying mo.

However, kung habang dinadagdagan yung stuff sa to-do

list mo, ay dinadagdagan din yung time to study, then

voila! Goodbye, LDMR! (haha, pero ceteris paribus sa

sleep okay ibang usapan yun kunyari immortal ka di ka

inaantok)

5. What are Returns to Scale (R2S)?

- allows us to see the changes in output when it’s not ceteris

paribus yeheyyyy!

- responsiveness of output to PROPORTIONAL changes in all

inputs

a. Decreasing Returns to Scale (DR2S)

1% increase in input = less than 1% increase in output

b. Constant Returns to Scale (CR2S)

1% increase in input = 1% increase in output

c. Increasing Returns to Scale (IR2S)

1% increase in input = more than 1% increase in output

B. PRODUCER EQUILIBRIUM

6. What is the producer equilibrium condition?

_MPL_ = _MPK__

PriceL PriceK

a. ISOQUANT

- equal-product CURVES

- all the points in the curve that represent the ALL the

combinations that may yield the same TOTAL PRODUCT

b. ISOCOST

- equal-cost LINES

- used by firms to determine which combination costs

least!

How do we solve for it?

We solve for ISOQUANT by getting all the combinations that may

yield the same total product (haha pareho lang nung sinabi ko kanina)

then plot!

We solve for ISOCOST by comparing how much/many can be

bought given two different amounts of input!

**Example on the next page**

For example: Given Php2 for Maxx Candy and Php3 for Fox Candy

Here is the ISOCOST graph yay!

7. How do we graphically interpret producer equilibrium?

KAYA NA YAN! Check your books nalang, it’s quite easy to

understand! (13th ed: App 22; 14th ed: App 8; 15th & 17th ed: App

7)

Note: basta kapag pinagsama in one graph yung isoquant curve

and isocost lines, kung anuman yung TANGENT LINE (meaning

whichever isocost line becomes the TL) ng ISOQUANT, yun yun

magyi-yield ng least cost!

C. COSTS

8. What is the relationship between production and cost?

Since firms need to pay for the inputs in order to produce, THERE

IS COST! Firms use cost in order to determine different production

strategies/methods. They want the MOST EFFICIENT method,

meaning which produces output with the LEAST COST.

9. What are the different cost concepts?

a. TOTAL COST (TC)

- total cost, duh!

- Hehe, TOTAL COST = VARIABLE COST + FIXED COST

b. VARIABLE COST (VC)

- cost that varies as output changes

- cost of MATERIALS used to produce any kind of output

(for example: COST OF CLOTH FOR SHIRTS)

c. FIXED COST (FC)

- overhead or sunk cost

- yung cost na KAHIT WALANG OUTPUT, kailangan paring

bayaran (for example: Rent for the store space; orrrr rent

for equipment)

d. MARGINAL COST (MC)

- additional or extra cost of producing 1 additional unit of

output

- can be quite low or can be superduperwhopperjunior

high!

- see examples on chapter 7 yay

- hahahahaha but then yeah sometimes, when MC is so

high you can reach heaven and the marginal

benefits/returns are so low you can touch the ground and

then you realize it’s not worth fighting for anymore y’know.

Imbis na iaral mo pa, itulog nalang YEAH.

e. AVERAGE COST (AC)

Average Cost = total cost/output

f. AVERAGE FIXED COST (AFC)

Ave. Fixed Cost = FC/output

**since forever the same naman yung Fixed Cost dahil

fixed nga eh, as more and more output is produced,

PABABA NANG PABABA yung AFC parang spaghetti yay!**

g. AVERAGE VARIABLE COST (AVC)

Ave. Variable Cost = VC/output

10. How are the different cost concepts related?

Uhhh. See picture below yehey! <sorry medj skwatz>

II. THEORY OF THE FIRM

Aim/objective: PROFIT MAXIMIZATION

Remember: Profit = Revenue – Cost

1. How do we read and interpret cost curve graphs?

2. What is the firm’s equilibrium condition in a perfectly competitive

market?

MR = MC (Marginal Revenue = Marginal Cost)

“A competitive firm can always make additional profit as long as

the price is greater than the marginal cost of the last unit.”

3. How do we know the firm’s profitability?

We just know it. Chos!

Idrk the answer to this question hahahahaha, but I guess, the firm

is making profit when revenues > vc yay!

4. What is the firm’s breakeven point?

Breakeven point is reached when there’s no profit, as in zero,

none, wala. Therefore yeah REVENUE = COST

5. What is the firm’s shutdown point?

The firm should shut its freaking business down when the

revenues just cover the variable cost (I mean like hello, may fixed

cost pa right, so deadz na talaga)

SHUTDOWN RULE – the shutdown point comes where revenues

just cover variable costs or where losses are equal to fixed costs.

When the price falls below AVC, the firm will maximize its profit by

shutting down.

Dear Batch 2013,

I love you all huhuhuhuhuhuhuhuhuhu 3 academic days nalang so fun

perio pa and omg honestly, kakaiba okay. Kayo na talaga words can not

express huhuhuhu okay I love you all again!!!!! I mean like okay seriously.

My high school life wouldn’t have been as fun kung hindi dahil sa inyo

awwww yiieee ang londz ko omg. Ngayon palang, namimiss ko na kayo

huhuhu >:D<

♥Elise

P.S. Ang saya manood ng PPOP songwriting contest because omg quality

OPM and huhuhuhuhu all the feelz.