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What are the three different types of firms?

Firms come in three types:

Sole Proprietors
Limited Liability Companies.

Most large firms tend to be limited liability companies.


State examples of different types of firms.

Joint-stock companies: owned by shareholders. There are two types of joint-stock companies:

Private Limited Companies
  Public Limited Companies

Workers’ cooperatives: e.g. John Lewis Partnership

Mutuals: e.g. Building Societies

Public Corporations: e.g. the Post Office (before privatization)

There are many others e.g. learned societies which publish academic journals, charities, the Cooperative movement etc. (e.g. the Royal Economic Society).


Why do firms exist?

Why do firms produce goods in-house rather than use markets?

R. Coase - firms need to take into account the transaction costs involved in using the market.

Producing goods in house loses some of the efficiency of the market, but avoids transaction costs.

The firm must make decisions based on a balance between these two factors.


What is the goal of a firm?

To maximise profits!


What is Market Structure?

Two extremes of market structure:
Perfect Competition (e.g. farming)
Monopoly (e.g. BT)

There are many cases between these, e.g.
Monopolistic Competition (high street fashion retailers)
Oligopoly (Boeing and Airbus)


What is meant by "perfect competition"?

Products are homogeneous.

Perfect substitutes.

Many firms, all are "small"

Firms are price takers

Freedom of entry and exit

No firm has access to technology or information that is
not available to the others.

All prices and costs known.


What are examples of perfect competition?

Since a firm in perfect competition is tiny compared to the total size of the market then we can assume that the quantity produced by the firm is totally reliant on that firm’s costs.

Examples of perfect competition very difficult to find - some market power exists in most situations.
Classic Example: Farming.


What is a monopoly?

One firm dominates industry.

Total control over provision of a good.

Barriers to entry.

Firm sets the price and quantity produced.

The firm’s demand curve is the same as that of the market


What are barriers to entry?

The barriers to entry may take one of two forms:

A monopoly imposed for social reasons - Network Rail, NHS, army, police force. These can be state owned (Post Office) or private (National Grid)

Increasing Returns to Scale - per unit costs diminish as a firm increases in size.


What is meant by firms and revenue?

When firms sell goods then those goods are counted as the revenue of the firm (ignoring taxation and subsidies).


Total Revenue = Price charged Quantity
In general total revenue increases with increases in price and quantity.


What is meant by average revenue and marginal revenue?

It is also useful to examine the revenue per unit sold. This is defined as:

Average Revenue = Total Revenue/Quantity sold
But this is simply equal to the price of the good under perfect competition!

Marginal Revenue: The addition to the total revenue obtained through the sale of one additional unit of output.


What are the costs and the firm supply curve?

In a previous lecture we used Marginal Product (MP) to derive a supply curve.

We assumed that, with an assumption of "diminishing returns", MP (i.e. additional amount produced by each additional labourer) would decline with an increase in the amount of labour.

Each additional unit of output would become more and more costly to produce.


What is the Time Dimension?

Economists look at costs in two time periods:

The short-run: only one factor of production can be varied by the firm.

The long-run: all factors of production can be varied.

Only the short-run is being considered in this course.


What is the difference between fixed costs and variable costs?

In the short run therefore there are two types of costs:

Fixed Costs: these are the costs which are incurred by the firm whatever the output of the firm.

Variable costs: these are costs which vary with the level of output. Effectively this means labour costs
Total costs = fixed costs + variable costs.


What are Total, Average and Marginal costs?

Total cost (TC) function: TC(Q) describes the lowest possible total cost to produce a certain level of output Q, with given technology and factor prices

Average cost (AC) function: AC(Q) = TC(Q)/Q describes how per-unit-of output costs vary with volume of output Q

Marginal cost (MC) function: MC(Q) = dTC(Q)/dQ describes the change in the total cost arising from increasing the output by one unit.


What are economies of scale?

When marginal cost is less than average cost, i.e. MCAC
Constant Economies of Scale: MC=AC