Firm Behavior

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Firm Behavior

• Chapter 5

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A Firm is an entity that transforms factors of
production into Goods and Services.
Land
Labor
Goods and Services
FIRM
Capital
Entrepre-neurship
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Types and sizes of firms

• Single proprietor
• Partnerships
• Multi-owned

• Hot-dog Vendor
• Neighborhood Grocery
• Ford Dealer
• Oscar Meyer Inc.
• Publix
• Ford Motor Company

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Analyzing Firm Behavior

• Firms face costs and benefits.
• Benefits Revenues
• Costs All costs incurred from operation
• Net Benefits Revenues - Costs Profits
• Assumption firms make decisions to maximize
  their net benefits (profits).

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The basic principle used to analyze firm behavior
is that of profit maximization.Firms evaluate
their opportunities by weighing the costs and
benefits, and then make the choice that benefits
them the most (adds the most to their profit).
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An Example

• Farmer Jones is growing wheat on 6 acres.
• She must decide how many acres to spray with
  insecticide.
• If she sprays one acre, she will save 25 worth
  of crop.
• How much savings will she get from spraying 2
  acres?

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Probably not 50

• All acres are unlikely to be the same in terms of
  productivity.
• Farmer Jones will spray the most productive land
  first.
• Savings will be less than 50 for spraying 2 acres

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• Additional savings for spraying the second acre
  is less than the savings for spraying the first.
• Using the same argument it is reasonable to
  assume that the additional savings for spraying
  the third will be less than the savings for
  spraying the second etc.

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Suppose that it costs 13 to spray an acre of
land.
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• At the point of maximum profit, marginal
  benefit marginal cost.

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Now suppose that in addition to the 13/acre, the
firm that does the spraying charges a fixed fee
of 10 to come to the farm.
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• At maximum profit,
  marginal benefit marginal cost
• The fixed fee has no effect on how many acres
  Farmer Jones sprays
• A firm will choose to operate where marginal
  benefit marginal cost (if it
  operates at all)

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Revenue

Output
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Cost

Output
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Cost

Max Profit
Revenue
Output
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Cost

Max Profit
Revenue
Output
Q
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Max Profit Condition
Marginal Cost
/unit
Marginal Revenue
Output
Q