Marginal
Analysis
Marginal Analysis
Business firms are in business mostly, again, why?
Marginal Analysis
Firms that are successful
have good managers.
A good manager’s #1 goal
is to maximize profits.
If the firm is not making
Marginal Analysis
Heads up…
He does that by finding
the point where
Marginal Analysis
In other words…
He wants to know what the
amount of the extra cost it will take to get the same amount of extra revenue
Marginal Analysis
Just remember that!…
For EVERY single firm in
EVERY single instance:
=
Marginal Analysis
EVERY time, ALL the time!
So let’s get it down!
Marginal Analysis
Make sure you know,though!
That this is marginal cost
and revenue, not TOTAL cost and revenue:
MR = MC
Yeah, I mean, doesn’t the firm want to have more revenues than costs,
What are profits?
Costs Revenues
This is profits.
$
What are losses?
Costs Revenues
This is losses.
$
A firm’s objective:
Keep costs down.
Remember, a firm
must pay the price for each input it
One way it does that:
Productivity.
This is production PLUS
efficiency.
How does a good
Productivity
Using time and
resources wisely.
Monitoring labor input.
Labor is the most
expensive cost for U.S. firms.
Technically:
The manager’s
#1 question:
“How much of this
They try to get it exact.
Too much: The firm
spends too much on costs.
Too little: Not enough
What is the key word here?
Costs!
The answer to the #1 Q
is in how the manager analyzes costs.
What helps him do that
What helps him do that?
Information technology!
See that J.B! 8,291 of our
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Profits – two kinds:
Accounting: total
revenue – explicit costs.
Economic: total
Profits – two kinds:
Implicit costs is the opportunity cost of doing business.
It is the normal rate of return on the firm’s
It is what the firm expects.
If it doesn’t get all the the benefits it expects,
And don’t forget…
A company is only as
successful as its manager is good.
And if you’re a good
$10,000,000 a year!
Salary.
Bonuses.
Stock options.
Benefits.
Or more!
The highest paid CEO:
Jeffery Barbakow. He
earned in one year (2003)…
$
116,000,000!
(Industry avg: $20 mil)
Pay vs performance: F
Why? Because his company (Tenet Healthcare) sucked! (At least more than it should have…)
Salary: $1 mil
Bonus: $5 mil
$10,000,000 a year!
Salary.
Bonuses.
Stock options.
Benefits.
But, to earn that…
Oooo…
He’s got to “produce!”
This always means profits.
And in the business world, this
always means earning the profits that the company expects to get!
And because of this, the
company considers what it expects to get as a cost!
What are profits?
Economic profits revenue$
Accounting profits Explicit Costs Normal rate of return on investmentWhat if the firm does not get what it expects?…
Here is how it all works...
Inputs go in
Outputs
The firm needs to know:
What incremental
increase in an input
(and the cost of that)…
…will bring about what
What is an incremental increase called?
It is something that is
marginal.
Remember, every
single person will only
do a thing when he sees
Here is how it all works...
Inputs go in
Outputs
come out
Marginal Thinking
So now the firm is just going to see what other
ADDITIONAL inputs to add and see if they will pay off.
Part of figuring that is knowing the difference between…
the long run
and
the short run
What is that? A simple story will help us understand…
Two kinds of costs…
fixed costs: don’t change
no matter how much you produce. (rent, some
utilities)
variable costs: change as
Added together they are
Total costs.
And remember:
Now, answer the following questions…
What are this firm’s fixed
Now, answer the following questions…
What are this firm’s fixed costs?
What are its variable costs if
Now, answer the following questions…
What are this firm’s fixed costs?
What are its variable costs if it
has an output of 3?
What is the marginal cost of
Now, answer the following questions…
What are this firm’s fixed costs?
What are its variable costs if it
has an output of 3?
What is the marginal cost of an
output of 2? Of 4?
What is the average total
Now to the most important question of them all!
How much profit is
this firm making?
Tell me tell me tell me!!!
How do we figure out how
much revenue a firm gets?…
Marginal Analysis Costs
Market
Structures Revenues
Figuring revenue…
Price x Quantity = Revenue
$ .50 x 1,000 = $500
$ .55 x 900 = $495
Oh my goodness! What happened
So how does this all work?
Well, now we have to
look at the market structure!
That is, we must ask,
how many sellers are in the industry? Click this