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Chapter 9

02.13.14 Chapter 9.docx

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Department
Economics
Course
ECON 1116
Professor
Osborne Jackson
Semester
Spring

Description
02.13.14 Chapter 9 Utility and Consumer Choice PG. 243-258 All economic decisions involve the allocation of scarce resources. Some decisions are “either-or” decisions, in which the question is whether or not to do something. Other decisions are “how much” decisions, in which the question is how much of a resource to put into a given activity. The cost of using a resource for a particular activity is the opportunity cost of that resource. Some opportunity costs are explicit costs; they involve a direct outlay of money. Explicit cost: cost that requires an outlay of money Implicit cost: a cost that does not require the outlay of money; it is measured by the value, in dollar terms, of forgone benefits. Other opportunity costs, however, are implicit costs; they involve no outlay of money but are measured by the dollar value of the benefits that are forgone. Both explicit and implicit costs should be taken into account in making decisions. Capital: the total value of assests owned by an individual or firm—physical assets plus financial assets. Economic profit: revenue minus the opportunity cost of resources used; usually less than the accounting profit. Implicit cost of capital: the opportunity cost of the use of one’s own capital—the income earned if the capital had been employed in its next best alternative use Accounting profit: revenue minus explicit cost. Many decisions involve the use of capital and time, for both individuals and firms. So they should base decisions on economic profit, which takes into account implicit costs such as the opportunity cost of time and the implicit cost of capital. Making decisions based on accounting profit can be misleading. It is often considerably larger than the economic profit because it includes only explicit costs and not implicit costs. 3. According to the principle of “either-or” decision making, when faced with an “either-or” choice between two activities, one should choose the activity with the positive economic profit. 02.13.14 Chapter 9 Utility and Consumer Choice PG. 243-258 4. A “how much” decision is made using marginal analysis, which involves comparing the benefit to the cost of doing an additional unit of an activity. The marginal cost of producing a good or service is the additional cost incurred by producing one more unit of that good or service. The marginal benefit of producing a good or service is the additional benefit earned by producing one more unit. The marginal cost curve is the graphical illustration of marginal cost, and themarginal benefit curve is the graphical illustration of marginal benefit. Marginal cost: the additional cost incurred by producing one more unit of a good or service. Marginal cost curve:a graphical representation showing how the cost of producing one more unit depends on the quantity that has already been produced. marginal benefit curve: a graphical representation showing how the benefit from producing one more unit depends on the quantity that has already been produced. 02.13.14 Chapter 9 Utility and Consumer Choice PG. 243-258 5. In the case of constant marginal cost, each additional unit costs the same amount to produce as the previous unit. However, marginal cost and marginal benefit typically depend on how much of the activity has already been done. With increasing marginal cost, each unit costs more to produce than the previous unit and i
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