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ECON10A_11

# ECON10A_11 - Review 1 Overview We learned how households...

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1/4/2008 1 Review

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1/4/2008 2 Overview We learned how households choose quantity of a given commodity they will consume, given prices and income. (Quantity demanded) But goods must be produced (i.e., supplied). We have yet to see how firms choose the quantity of goods they will produce, given prices and costs. (Quantity supplied) To analyze supply, then, we study production, costs, and profit maximization This will characterize trade-offs faced by the firm Later (100B): Equilibrium price will equate quantity supplied with quantity demanded
1/4/2008 3 Theory of Production

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1/4/2008 4 Production Functions Types of factors: Q- Flow of output (phys units/time) L- Flow of Labor (person hrs/time) K- Flow of capital input (machine-hrs/time) M - Materials E – Energy, etc. Q=F(L,K,M,E...) P= Price of output (\$/physical unit) w = wage rate(\$/person-hr) r=rental rate(\$/machine-hr) Here, we simplify and think of Q=F(L,K)
1/4/2008 5 Capital What is capital? Produced good used to produce other goods. Think of “machines” These are rented at rental rate, r. In economic terms, given a fixed rental rate r, production is less costly if you own your machines than if you rent them. A. True B. False C. Can’t tell Must pay “rental rate” on capital even if you own your machines. Opportunity cost: Could have invested the cost of machines and earned “r”.

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1/4/2008 6 Examples of Production Functions Linear F(L,K)=aL+bK CobbDouglas F(L,K)=AL α K β Leontief F(L,K)=min[L/a,K/b] Graphically L F(L,K) K
1/4/2008 7 Marginal Product MP L (L,K)= Given current use of L units of labor and K units of capital, how much extra production could be achieved with one more unit of labor MP K (L,K)=

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