Micro 15 - Costs and Revenues

Question 1

Define Total revenue (TR)

Answer 1

Total revenue is also called turnover. It is the amount of money the firm receives from all its sales over a certain period

Question 2

State the formula used to calculate Total revenue

Answer 2

TR = P*Q

Question 3

Define Average revenue (AR)

Answer 3

Average revenue is the average receipt per unit sold. AR equals the price charged for the product meaning the demand curve is also the average revenue curve

Question 4

State the formula used to calculate Average revenue

Answer 4

AR = TR/Q = P*Q/Q = P

Question 5

Define Marginal revenue (MR)

Answer 5

Marginal Revenue is the the revenue associated with each additional unit sold - the change in total revenue from selling one more unit

Question 6

State the formula used to calculate Marginal revenue

Answer 6

MR = change in total revenue / change in quantity

Question 7

How can MR be calculated from the TR curve?

Answer 7

MR is the gradient of the TR curve

Question 8

Why is the MR and AR curves downwards sloping?

Answer 8

The MR and AR curves are downward sloping as the firm can only sell one more unit by reducing the price. Therefore the MR will always be lower than the AR except in perfect competition

Question 9

What is the relationship between the steepness of the MR and AR curves?

Answer 9

The MR curve is always twice as steep as the AR curve meaning it should cut the x-axis at half the output that the AR curve does

Question 10

What is the value of MR when TR is maximised?

Answer 10

MR=0

Question 11

Why is TR maximised when MR=0?

Answer 11

After MR=0 MR becomes negative so TR begins to fall as the price is lowered to sell more units

Question 12

When demand is price elastic what effect will increasing and decreasing price have on total revenue?

Answer 12

• Increasing price will decrease total revenue
• Decreasing price will decrease total revenue

Question 13

When demand is price inelastic what effect will increasing and decreasing price have on total revenue?

Answer 13

• Increasing price will increase total revenue
• Decreasing price will decrease total revenue

Question 14

Defined Fixed costs (FC)

Answer 14

Fixed costs are costs which do not vary as the level of output produced changes

Question 15

Define Variable costs (VC)

Answer 15

Variable costs are costs which are directly related to the level of output produced

Question 16

State the formula for calculating Average fixed costs (AFC)

Answer 16

AFC = TFC / Q

Question 17

Draw the AFC curve on a costs and quantity diagram

Answer 17

See page 13 in pack 15

Question 18

Explain the shape of the AFC curve

Answer 18

The AFC curve slopes downwards because fixed costs do not vary with output

Question 19

State the formula used to calculate Average variable costs (AVC)

Answer 19

AVC = TVC / Q

Question 20

What is the effect on marginal costs and average costs when fixed costs change?

Answer 20

When fixed costs change, marginal costs doesn’t change and average costs changes

Question 21

What is the effect on marginal costs and average costs when variable costs change?

Answer 21

When variable costs change, marginal costs changes and average costs changes

Question 22

How can you calculate marginal cost from TVC

Answer 22

Marginal cost = Change in TVC

Question 23

Define the Short run

Answer 23

The Short run is a time period in which at least one factor of production is fixed. It cannot be changed even if there is a change in demand

Question 24

Define the Long run

Answer 24

The Long run is a time period when all factors of production are variable

Question 25

Does the marginal cost (MC) curve slope upwards or downards?

Answer 25

Initially downwards then upwards

Question 26

Draw the MC curve and explain its shape

Answer 26

See page 16 in pack 15

Question 27

Explain the shape of the MC curve

Answer 27

• In the MC curve we are looking at the short run
• Initially as output rises more staff are hired to make these units. More staff members means the production process can be divided into smaller tasks - division of labour. This specialisation of workers means higher labour productivity. Workers are getting paid the same wage as each as when output per worker was lower but the firm is now getting more output from them. This lowers marginal and average costs which explains why initially marginal cost fall as output rises (shown by the dip in the curve)
• Eventually diminishing returns sets in
• Diminishing returns occurs in the short run when one factor of production is fixed. If the variable factor of production is increased there comes a point where the next worker will become less productive then the worker before them. This arises when staff are operating within the constraints of fixed factors of production. This decreases the output of each extra worker - diminishing returns has set in
• As productivity falls workers are still getting paid the same each but less output is generated so costs per unit produced rise. This is why MC and AC fall then rise

Question 28

State the law of diminishing returns

Answer 28

The law of diminishing returns states that if increasing quantities of a variable input are combined with a fixed input, eventually the marginal and average product of that variable input will decline

Question 29

Where does the AC curve cross the MC curve?

Answer 29

The AC curve crosses the MC curve at its lowest point

Question 30

Draw the TC, TVC and TFC curve on a diagram and explain their shapes

Answer 30

See page 21 in pack 15

Question 31

Draw the MC, ATC, AVC and AFC curves on a diagram

Answer 31

See page 19 in pack 15