Outline

I.      Profit, Cost, and Revenue

        A.      Maximizing Profits
                1.      The assumed goals of firms is profit maximization.
                2.      The profit-maximization model can be used to define a full class of  models and results that apply to many firms.
                3.      Profits are defined as total revenue less total costs.
                4.      Profits can be positive, zero, or negative.
        
        B.      Economic Costs and Economic Profits
                1.      The definition of opportunity costs introduced earlier in the semester makes it clear that implicit costs are opportunity costs.
                2.      Explicit costs involve "writing checks" or making entries in ledgers.
                3.      Implicit costs are not so easily quantified in many cases.
        
        C.      Economic Versus Accounting Profits
                1.      Computation of economic profits differs from computation of accounting profits.
                        a.      Economic Profit = Total Revenue - Explicit Cost - Implicit Cost
                        b.      Accounting Profit = Total Revenue - Explicit Cost
                2.      Therefore, when economic profits are zero, the firm is earning just 
                        enough to cover opportunity costs; it is earning as much as it would if the resources were being used for the next best alternative.
        
        D.      The Allocative Function of Profits
                1.      If economic profits are negative, opportunity costs are not being 
                        covered, there is a more profitable use for these resources, and the 
                        profit-maximizing owner should reallocate them.
                2.      If economic profits are positive, resources will be pulled into this industry.

II.     Two Time Periods:  The Short Run and the Long Run

        A.      The economic time periods help to define what options the decision-maker has.
        B.      The short run is a period of time in which some inputs are fixed; in the long run, all inputs are variable.
        C.      The economic time periods are industry-specific; the actual amount of time included depends upon the firm's production process and financing ability.

III.    Production in the Short Run

        A.      The Production Function
                1.      A production function is a relationship between inputs and outputs.
                2.      Total product is the total output of a production process operated at a particular level.
        
        B.      Average Product and Marginal Product
                1.      Average product is the output per unit of input.
                2.      Marginal product is the additional output produced by the last unit of input employed.
        
        C.      The Law of Diminishing Returns
                1.      The law of diminishing returns states that as more and more units of a variable input are added to a fixed capital base, eventually marginal product falls.
                2.      Note that the shapes of the total, average, and marginal product curves are determined by the point where diminishing returns sets in.

IV.     Costs in the Short Run

        A.      Fixed Costs and Variable Costs
                1.      Fixed costs of production are costs that do not vary as output varies.
                2.      Variable costs of production are costs that do vary as output varies.
                3.      Total cost of production is the sum of all fixed and all variable costs. 
        
        B.      Per-Unit Costs
                1.      Average total cost is the cost per unit of output.
                2.      Marginal cost is the additional cost of producing the last unit of output.
                3.      These cost curves are drawn with the assumption that technology and resource prices are held fixed.
        
        C.      The cost functions can be related to the production functions using the law of diminishing returns.

V.      Costs in the Long Run

        A.      The long run differs form the short run in two ways.
                1.      All factors of production are variable.
                2.      Therefore, the law of diminishing returns is no longer relevant.
        
        B.      The long-run average total cost curve (LRATC) indicates the least costly way to 
                produce a given level of output once the firm has had time to alter all inputs, including plant size.
                1.      Use Figure 23-5 to show several different short-run cost situations.
                2.      The point here is that a different optimal plant size may exist for each level of output.
        
        C.      The Scale of Operations
                1.      Economics of scale are defined to exist when average costs of production decline as output increases.
                2.      Diseconomies of scale are defined to exist when average costs of production rise as output increases.
                3.      Constant returns to scale are defined to exist when average costs of production remain constant as output increases.
                4.      Note the difference between economies/diseconomies of scale and the law 
                        of diminishing returns:  The former is a long-run concept, whereas the latter is a short-run concept.