EJC H2Econs Topic6

How to use this set of lecture notes? 1) BEFORE LECTURES – UNDERSTANDING CONTENT - Reference your notes against your H2 syllabus. Mark out the key concepts so that you know what you MUST know - Read your notes ahead so that you can focus on listening and capturing additional notes during lectures 2) During lectures – APPLYING CONTENT - Bring your hard copy notes along, and use your PLDs to refer to the lecture slides concurrently - Capture additional notes, especially the real-world examples where you can note down how concepts are applied and how economic analysis are developed in varying contexts - You should make use of a notetaking/consolidation tool to take notes during lessons and to consolidate your learning at timely junctures. Examples are M iro, Notion, Goodnotes, Notability, Microsoft OneNote, KAMI, etc. The choice is yours! 3) After Lectures – TUTORIAL PREPARATION to use content flexibly to show application, analysis and evaluation skills - Revise concepts relevant for the case study and essay questions - Refer to the notes and use it flexibly to prepare your answers to meet question requirements. Pure memorisation will not work as it does not involve deep understanding. - Do share your notes with your friends to multiply learning!

Essential Questions: 1. What decisions do firms make? 2. How do firms make decisions? 3. What are the impacts of firm’s decisions? Introduction to Objectives of Firms; Cost and Revenue 1. Objectives of Firms 1.1 Profit-maximisation (Traditional) 1.2 Alternative Objectives (Non-traditional) 2. Economic Profit and Production Costs 2.1 Types of Economic Profit 3. 3.1 3.2 Short-run Production and Costs Short-run Costs Marginal Cost (MC) [NOTE these 3 cost concepts: Total Cost (TC), Average Cost (AC) and Marginal Cost (MC)] 4. 4.1 4.2 4.3 4.4 4.5 Long-run Production and Costs Returns to Scale Long-run Average Cost (LRAC) for substantial IEOS Long-run Average Cost (LRAC) for limited IEOS Internal Economies and Diseconomies of Scale External Economies and Diseconomies of Scale 5. Firms’ Revenue Curves 5.1 5.2 Revenue Curves for Price-taking Firms Revenue Curves for Price-setting Firms [NOTE these 3 revenue concepts: Total Revenue (TR), Average Revenue (AR) and Marginal Revenue (MR)] 6. Profit-Maximisation Condition (MC = MR), Price, Output, Level of Profits 6.1 6.2 Price-taking Firms Price-setting Firms 7. Shut-down Conditions Annex CONTENTS

Introduction to Objectives of Firms; Cost and Revenue From the market forces of demand and supply, the remaining Microeconomic topics examine the producer behaviour in greater depth from a firm’s perspective. We will deepen our understanding of how a firm makes rational decisions to achieve its objective(s). This topic will reveal the various objectives of the firm and how a firm’s cost of production and revenue is affected when its production increases. You might be surprised to find out that production costs of a firm can be affected when a group of firms producing similar or related goods and services (also known as an industry) expands its scale of production. While the understanding of production costs is critical to a firm based on its traditional objective of profit- maximisation, it is important to also appreciate other firm objectives to understand their decision-making process in the real world! A firm is an organisation or enterprise formed by an entrepreneur (or a group of entrepreneurs) who brings together various factors of production ( land, labour and capital) to produce goods or services for sale. The process in which various factors of production (also known as factor input) are utilised to produce goods and services (also known as output) is the production itself. As a firm increases production to a higher level of output, it will have to increase the quantity of factor inputs. This will in turn affect its costs of production. Through Theme 2.2, we will uncover the objectives and contexts that firms operate in to better understand how they make decisions anchored on benefits and costs , in consideration of data and information, perspectives and constraints. In so doing, we will also appreciate how well they are able to achieve intended outcomes as well as how unintended outcomes could result. 1. Objectives of Firms 1.1 Profit-maximisation (Traditional) The traditional objective of a rational firm is to maximise profit. Decisions made on the use of scarce resources would in turn affect the revenue received and the costs incurred. Recall that firms (as economic agents) make decisions at the margin, in line with the Marginalist Principle (which we will revisit later). As such, the firm then will have to weigh the change in revenue (Marginal Revenue) against the costs (Marginal Cost) incurred, when deciding whether to produce an additional unit of its good/service. To maximise profits, the firm will produce up till the quantity where Marginal Revenue (MR) = Marginal Cost (MC) (to be explained later). 1.2 Alternative Objectives (Non-traditional) While it is assumed that firms act in accordance with the profit-maximising objective, they may not always do so due to the following: a. Firms may not be able to accurately estimate their MR and MC due to unavailable or imperfect information.

To obtain information about MR: Firms will need to know how responsive consumers will be to any price changes – or the PED. They could estimate PED using past data or market research, but neither will be fully accurate. To obtain information about MC: Firms should consider both explicit and implicit costs. However, firms may only consider explicit costs, for example, labour costs, because it is easier to compute, and they may lack information on implicit costs. The issue of obtaining accurate information may be compounded by dynamic market conditions. This means that even if the correct points of MR and MC could be identified, the rapid changes in market conditions could make the identified point obsolete quickly and become inaccurate. Thus, firms would have to constantly adjust prices or output as ma rket conditions change if they wish to maximise profits. b. Firms may not profit -maximise in the short run and choose to pursue alternative objectives. This non-profit maximising behaviour is dependent on their operating context such as stage of maturity and extent of competition. Nonetheless, these alternative objectives may be short-term in nature while retaining their longer-term objective of profit-maximisation. The alternative firm objectives are: a. Profit satisficing Profit-satisficing behaviour arises due to the separation of ownership and management. The principal-agent problem provides insight into this. As information is imperfect, firm’s owner s (the principal) may not know what the maximum level of profits could be. Hence managers (the agent) may aim for a minimum level of profit that is just enough to satisfy the owners (and shareholders) rather than maximise profits. b. Revenue maximisation Some firms may also simply aim for revenue maximisation instead. This could also be explained through the principal-agent problem. In competing with one another, a manager (the agent) may aim to maximise revenue rather than profits as his job performance may be measured by the former. They may deploy strategies so that they garner top sales awards, high commissions and Connect, Extend, Challenge How do firms make use of technology to obtain more information about MR and MC?

favourable promotion prospects. However, it may not be in the interests of the firm’s owners (the principal) whose objective is to maximise profits (TR - TC). While it is good to maximise revenue and sell as much as possible , higher costs will also need to be taken into consideration. If the