6.0 Representing the Power of the Invisible Hand - PowerPoint PPT Presentation

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6.0 Representing the Power of the Invisible Hand

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6.0 Representing the Power of the Invisible Hand 6.1.1 Many nations of the world have switched to markets They are convinced that markets will help nations realize ... – PowerPoint PPT presentation

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Title: 6.0 Representing the Power of the Invisible Hand

1
6.0 Representing the Power of the Invisible Hand
2
6.1.1

Many nations of the world have switched to
markets
They are convinced that markets will help nations
realize greater wealth by making production more
efficient

3
6.1.2

Marginal cost how much it costs to make the
next unit
Average cost generic measure of cost, total
cost of production divided by total units
produced

4
Unit of Output MC AC Calculating AC
1st 100 100 100/1
2nd 90 95 190/2
3rd 80 90 270/3
4th 70 85 340/4
5th 80 84 420/5
6th 90 85 510/6
7th 100 87 610/7
8th 110 90 720/8
9th 120 93 8409
10th 130 97 970/10
5
6.1.3

Average 27 goals a season
This year you score (at the margin) 35
What happens to average?
It goes up
Margin pulls average along
If margin is higher than average, it pulls it up,
and vice versa

6
6.1.4
7

MC always intersects AC at the bottom or minimum
of the AC curve
Marginal always pulls average in its direction
This relationship between MC and AC will be an
important part of efficiency

8
6.1.5

For a firm in the product market,
A profit is when total revenue exceeds total
costs
A loss is when total costs exceed total revenue
Breaking even is when total costs and total
revenue are the same

9
Total revenue-

Money it takes in from sale of a product
TR p X Q
5 cars at 20,000 each 100,000 total revenue

10
Total cost-

Amount of money a firm spends on the process of
producing
TC AC X Q
Produces 5 cars at an average of 17,000 each
85,000 total cost

11
? - Stands for profit
12
In this example,

The firm is making 15,000 profit
100,000 - 85,000 15,000

13
6.1.6
14
Market price is p1

Firm will produce Q1 because that is where MC
(supply) is
The average cost at Q1 is AC1
Total revenue p X Q
Total cost AC X Q
Think of each of these as rectangles
TR gt TC
Profit TR -TC

15
6.1.7

Profit is revenue above costs
Costs include normal returns
Profit is gravy, its nice,
but not necessary to stay in business

16
Profits mean

that market is a good place to be
Under perfect competition,
firms have no power and all have equal access to
information
Profits attract competitors
Market supply shifts out, price falls
profits are driven to zero
Only costs are covered

17
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18
6.1.8

Profit is a powerful yet ephemeral signal
It is a magnet that attracts competitors, yet the
irony is that
the competition drives profits away
Firms only get normal returns under perfect
competition

19
6.1.9

when profits have been driven to zero by
competition
p MC AC
at the bottom of the average curve line
Maximum productivity, minimal average cost
This is the most efficient point of production

The self-interested behavior of seeking profits
leads to the
most efficient outcome

21
6.1.10

Perfect competition forces firms to adopt the
most efficient, lowest cost technique
If they dont, they get left in the dust, as
customers move elsewhere,
given our nice assumption of equal access to
markets and info

22
6.2.1

Not only do markets encourage efficiency,
they also encourage creativity and inventiveness

23
6.2.2

If perfect competition has a firm producing at
the bottom of its average cost curve,
it can go on just making normal returns
How can you do better?
You must innovate and become more efficient than
your competitors

24
Such innovation