Costs
● Average Fixed Cost (AFC)
○ AFC= FC / Q
● Average Variable Cost (AVC)
○ AVC= VC / Q
● Average Total Cost (ATC)
● ATC= TC / Q =AFC+AVC
Marginal Cost (MC)
● Cost of producing 1 more unit
● MC= ΔTC / ΔQ
Revenue
● Total Revenue (TR)
○ TR= Price×Quantity
● Marginal Revenue (MR)
○ MR= ΔTR / ΔQ
● In perfect competition, MR = P = MC
Profit & Costs
● Costs: Explicit (Require out of money) and Implicit (opportunity cost)
● Profit: Accounting ( TR - total explicit cost), Economic (TR - TC = TR - Explicit+Implicit)
● MPL = ΔQ / ΔL
● MC = ΔTC / ΔQ
● ATC = TC/Q = AFC + AVC
○ When MC < ATC, ATC fall
○ When MC > ATC, ATC rises
○ When MC = ATC, ATC min
● MAX Profit: TR - TC
Cost Graphs
● MC cuts ATC and AVC at their minimum points
● AFC always decreases
● ATC and AVC get closer as output increases
● MC is U-shaped due to law of diminishing marginal returns
Long Run Cost:
● Economies of Scale: ATC↓ as Q↑
● Constant Returns to Scale: ATC stays the same
● Diseconomies of Scale: ATC↑ as Q↑
Perfect Competition
● MR = AR = P
● Free Exit and Enter
● Profit max at MR = MC = Pmax
● TR = P x Q
● AR = TR / Q
● MR = ΔTR / ΔQ
● In short run: can earn profit/loss
● In long run: zero economic profit (normal profit)
Maximize Profit
● If MR > MC, increase Q
● If MR < MC, Decrease Q
● MR = MC, Max Profit
● MC = Supply Curve above AVC
● Profit = (Price - ATC) x Q
● Total Loss = (P2 - P1) x Q
Profit/Loss Graph Areas
● Profit: ATC below P, TR > TC → rectangle between P and ATC
● Loss: ATC above P, TR < TC → rectangle between ATC and P
● Shutdown if P < AVC
● Shutdown: Short run
○ If TR < VC or P < AVC
○ If P > AVC, produce Q where P = MC
○ Sunk Cost (FC), ignored
● Exit: Long run
○ If TR < TC
○ If Existing firms earns: New firms enter, supply shift right, Price falls, reduce profit
○ If Existing firms loss: Some firm exit, supply shift left, Price rise, reduce loss
■ Remaining firms zero economic profit: P = MC = ATC, P = min ATC
● Enter if TR > TC or P > AVC
4. Oligopoly
● Few large firms dominate.
● Interdependence – firms consider rivals’ actions.
● Barriers to entry are high.
Concept Formula
Total Revenue (TR) P×Q
Marginal Revenue (MR) ΔTR / ΔQ
Total Cost (TC) FC + VC
Marginal Cost (MC) ΔTC / ΔQ
Profit TR - TC
Profit Max Rule MR = MC
Allocative Efficiency P = MC
Productive Efficiency ATC min
Natural Monopoly:
Feature Description
💸 Huge Fixed Costs Cost of setting up is $$$ (e.g. power lines, pipes)
📉 Low Marginal Cost After setup, adding customers is cheap
📈 ATC keeps falling Average Total Cost decreases over a wide range of output
❌ Not Productively Doesn’t produce where ATC is minimized (bc one firm rules)
Efficient
❌ Not Allocatively Price > MC (underproduces compared to socially optimal)
Efficient
1. Monopoly
● Price Maker – must lower the price to sell more.
Graph: Gaining vs losing
●
● Profit max: MR = MC
● Price: go up to D curve at Q*
● Inefficient (not allocatively efficient or productively efficient)
2. Price Discrimination (Monopoly)
● Charges different prices to different consumers based on willingness to pay.
Types:
● Perfect Price Discrimination: No DWL, all CS becomes profit: P=MR,
● No Consumer Surplus
● Group Price Discrimination: Different groups (e.g. student discounts).
3. Monopolistic Competition
● Many sellers, differentiated products, low barriers to entry.
● Price makers, but not as much power as monopolies.
● Use advertising, brand loyalty.
Graph:
● Short run: Profit/loss like monopoly.
● Long run: Entry/exit leads to zero economic profit.
○ Still not efficient (P > MC, excess capacity).