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Chapter 7 Comprehensive Notes

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University of Texas at Austin
ECO 304K

Chapter 7: Production and Cost Notes Econ 1. Firms, Profits and Economic Costs a. Firm- an economic institution that transforms inputs or factrs of production into outputs or products for consumers b. Entepreneurs i. The person who takes the risk of raising the required capital, assembling workers and materials, producting the product and offering it for sale ii. Sole proprietorship- 1 owner 1. Easy to establish and manage 2. Disadvantages- limited in ability to raise capital, personal assets of owner are subject to liability iii. Partnership- 2 or more owners 1. A little easier to raise funds, also subject to full liabilty iv. Corporations- many stock holders 1. Easy to raise capital through stockholders 2. Only liable up to the amount they put in v. US has over 25 million businesses 1. 75% sole prop. 2. 20% corperations c. Profit- The difference between total revenue and total cost i. Total Revenue- Amount of money a firm receives in sales of its products (PxQ) d. Economic Costs- The sum of explicit and implicit Costs i. Explicit Costs- expenses pai irectly to some other economic entity 1. Wages, lease payments, expenditures on material, taxes, utilities,e ct ii. Implicit Costs- All of te Opportunity costs of using resources that belong to the firm 1. Depreciation, depletion of business assets, opportunity cost of firms capital iii. Sunk Costs- Costs that have already been incurred and cannot be recovered 1. Previous bet in a poker hand, tuition you paid for the semester, expenditures on advertising iv. Economic Profits- generating profits in excess of 0 once implicit costs are factored in 1. Thus a 0 economic profit means a firm is earning just the normal rate f return on its capital or just enough to cover the opportunity cost of this capital 2. Normal Profits- Zero economic profit, just enough to keep everonye happy 3. Anything over 0 then is true economic profit, anything below is economic loss 4. For example, if you earn 30,000 running a restaurant, but you could have earned 35,000 at a different job, you have a 5000 economic loss 2. Short Run vs. Long Run a. Short Run- period of tiem over which at least one factor of production is fixed i. Assume this is the plant capacity ii. Output from a fixed plant can still vary depending on how many employees work overtime or run more shifts iii. Labor is the variable factor, but changes in raw material happen as well b. Long Run- period of time sufficient
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