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Lecture 1

Economics 1021A/B Lecture Notes - Lecture 1: Historical Cost, Opportunity Cost, Product Differentiation

Course Code
ECON 1021A/B
Michael Parkin

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CHAPTER 10 – Organizing Production
Firm's goal
A firm's goal is always to maximize profit
Accounting Profit vs. Economic Profit
Economic profit differs from accounting profit as economic profit takes into account opportunity
cost of production
Opportunity Cost of Production
Opportunity cost of production is the value of the best alternative use of the resources that a
firm uses in production
In money units so that we can add them up and finally subtract from the total revenue to
determine the profit
Resources Bought in the Market
Basically the accounting cost, cost of goods sold
The opportunity cost when it buys resources in the market
Resources Owned by the Firm
Firms incur an opportunity cost when it uses its own capital
They could be selling this capital or they can rent from another firm
When a firm uses its own capital, it implicitly rents from itself
Implicit rental rate is the firms opportunity cost of using the capital it own
oIncludes: the economic depreciation and the foregone interest
In accounting depreciation, a predetermined method is used to calculate the depreciation,
however, that method might not reflect the real market value of the depreciated product.
However, economic depreciation reflects the actual change in market value over this period of
Foregone interest are the funds that are used to buy the capital instead of investing the money
oIf the firm used the money to buy bonds instead of the new machine, they could have
earned additional interest on those bonds
Resources Supplied by the Owner
When an owner supplies entrepreneurship, the return on entrepreneurship is profit and the profit
that the entrepreneur earns on average is called normal profit
oNormal profit is the cost of entrepreneurship and is and OC of production
oHow much she will be paid at another firm
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