Theory of the Firm Flashcards – The Economics Classroom

Theory of the Firm Flashcards

Only 10 flashcards are shown at a time! Once you’ve mastered these 10 Economic terms, click the shuffle button below for 10 new terms. There are approximately 45 flashcards covering Theory of the Firm

Average fixed cost
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The total fixed costs (of land and capital) of a particular level of output divided by the quantity being produced.

Average fixed cost
Average total cost
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The total cost of a particular level of output divided by the quantity produced. Equals the average variable cost plus the average fixed cost.

Average total cost
Profit
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The payment to the entrepreneur in the resource market. A business owner expects to earn a “normal” level of profit, otherwise it will not be worth his while to remain in a market. In this regard, profit is a cost of production, because if a minimum profit is not earned a firm will shut down.

Profit
Opportunity cost
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What must be given up to have anything else. Not necessarily monetary costs, rather include what you could do with the resources you use to undertake any activity or exchange.

Opportunity cost
Normal Profit
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The implicit cost faced by the owner of a business firm. A business owner will wish to cover all of his explicit costs (wages, rents and interest payment), but also earn a “normal” level of profit in order to remain in a market in the long run. If a normal level of profit is not enjoyed by the entrepreneur, he will shut down his business and re-allocated his resources into another industry in which a higher level of profit can be earned. Normal profit is a cost, because if it is not earned, a firm will eventually shut down.

Normal Profit
Allocative efficiency
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When the level of output that society demands is produced by the firms in a market. If the marginal benefit enjoyed by consumers equals the marginal cost faced by producers, allocative efficiency is achieved. Only in perfect competition will allocative efficiency be achieved in the long-run, since the price of the good equals the marginal cost of the producers. In imperfectly competitive markets, the price will always be higher than the marginal cost of the firms, indicating that resources are under-allocated towards the product.

Allocative efficiency
Monopolistic Competition

A market in which a relatively large number of firms competes with one another by differentiating their products from the competition. Economic profits can be earned in the short-run through successful product differentiation, but due to the low barriers to entry they are unlikely in the long-run. Monopolistic competition is the most common market structure, and included restaurants, automobiles, clothes, salons, etc…

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Monopolistic Competition
Total cost
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The total expenditures made by a firm on land, capital, labor and the entrepreneurship of the business owner towards the production of a good or service at a particular level of output.

Total cost
Homogenous
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Means “identical”. The output of a perfectly competitive firm is homogeneous to all other firms in the market.

Homogenous
Barriers to entry
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The factors which make it costly or difficult for a firm to begin producing a particular good. Might include high start-up costs, legal barriers such as patents and government licenses, or ownership of the factors of production.

Barriers to entry

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