Firms Production and costs

Question 1

What is a firm?

Answer 1

An economic unit that hires and organises factors of production to produce and sell goods and services.

Question 2

What is the primary goal of a firm?

Answer 2

To maximise economic profit.

Question 3

How do you calculate economic profit?

Answer 3

Economic profit = Total revenue – Total economic costs.

Question 4

What is opportunity cost?

Answer 4

The value of the next-best alternative foregone.

Question 5

What is the difference between explicit and implicit costs?

Answer 5

Explicit cost: Actual monetary expenditure.

Implicit cost: Non-monetary opportunity cost (e.g., owner’s time).

Question 6

Give examples of implicit costs.

Answer 6

Economic depreciation

Forgone interest

Owner’s time (e.g., forgone salary)

Normal profit

Question 7

What is a normal profit?

Answer 7

The minimum profit needed to keep the owner operating the business.

Question 8

What is “technology” in economics?

Answer 8

The process used to turn inputs into outputs.

Question 9

What constraints do firms face when maximising profit?

Answer 9

Available technology

Consumer demand

Question 10

Define the short run.

Answer 10

A period where at least one input is fixed.

Question 11

Define the long run.

Answer 11

A period where all inputs can be varied.

Question 12

What is a production function?

Answer 12

The relationship between inputs used and the maximum output produced.

Question 13

What is marginal product (MP)?

Answer 13

Additional output from using one more unit of input.

Question 14

What is average product (AP)?

Answer 14

Total output divided by number of units of input.

Question 15

What is the law of diminishing returns?

Answer 15

As more of a variable input is added to fixed inputs, MP eventually decreases.

Question 16

When does MP cross AP?

Answer 16

At AP’s maximum point.

Question 17

What are fixed costs (FC)?

Answer 17

Costs that remain constant regardless of output (e.g., rent).

Question 18

What are variable costs (VC)?

Answer 18

Costs that change with output (e.g., wages).

Question 19

What is total cost (TC)?

Answer 19

TC = FC + VC

Question 20

What are ATC, AVC, and AFC?

Answer 20

ATC = TC / Q

AVC = VC / Q

AFC = FC / Q
(Note: ATC = AVC + AFC)

Question 21

What is marginal cost (MC)?

Answer 21

The change in total cost from producing one more unit.
MC = ΔTC / ΔQ

Question 22

When does MC cross ATC and AVC?

Answer 22

At their minimum points.

Question 23

Why does the MC curve slope upwards?

Answer 23

Due to the law of diminishing returns.

Question 24

What is the shape of the AFC curve?

Answer 24

Always downward sloping (spreading fixed cost over more output).

Question 25

Why does ATC follow a U-shape?

Answer 25

: Initially falls due to spreading FC and increasing returns, then rises due to diminishing returns.

Question 26

What are economies of scale?

Answer 26

LRAC falls as output increases due to efficiency gains (e.g., specialisation, bargaining power).

Question 27

What is constant returns to scale?

Answer 27

LRAC stays constant as output increases.

Question 28

What is the minimum efficient scale?

Answer 28

The lowest quantity of output at which LRAC is minimised.

Question 29

What are diseconomies of scale?

Answer 29

LRAC rises as output increases due to inefficiencies at large scale.

Question 30

Diminishing returns vs. Diseconomies of scale — what’s the difference?

Answer 30

Diminishing returns: Short-run, MP declines because some inputs are fixed. Diseconomies of scale: Long-run, LRAC increases due to firm being too large.