13Lecture - LECTURE 13 THE THEORY OF THE FIRM We now begin...

Info iconThis preview shows pages 1–3. Sign up to view the full content.

View Full Document Right Arrow Icon
LECTURE 13 THE THEORY OF THE FIRM We now begin the all-important topic in microeconomics known as the theory of the firm: how and why firms make economic decisions. Entrepreneurs organize firms to produce economic goods. The entrepreneurs develop a business plan to produce and sell economic goods. The entrepreneurs contract with households to obtain land, labor, and capital in exchange for income, which goes to the household as rent, wages, and interest, respectively. If the revenues of the firm exceed the costs of inputs during the period of production and sale, the firm makes a profit, which goes to the entrepreneur. The profit motive is the only reason that entrepreneurs organize and operate firms. Firms that make the best decisions make the most profit, and can operate for long periods of time. Firms that make bad decisions make little or no profit, or take losses, and go out of business. For centuries, economists have observed how firms make decisions, and how those decisions have resulted in profits and losses. Unlike other theories, such as evolution and global warming, the theory of the firm is settled science , and no economist disagrees with any of the principles that you are about to learn. PRODUCTION RUNS Remember, all production takes place in the firm. Inputs are combined to produce economic goods, or products. There are three production runs that define the production process for any economic good: the long run, the short run, and the market period . The Long Run Production runs are not definitive periods of time, such as 6 months or 1 year. Production runs will differ from firm to firm and from industry to industry. Production runs are defined by the number of inputs that can be altered during a given time period or at a given point in time when the entrepreneur considers making a change in the production process . BY DEFINITION: IN THE LONG RUN, ALL INPUTS ARE VARIABLE. NO INPUTS ARE FIXED. By variable, we mean that the quantities of the inputs used to produce output are variable. Sonny Hatley's cotton farm requires land, labor, and capital. If
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Sonny can alter the number of acres he plants in cotton, the number of workers he hires, and the amounts of all the capital that he uses, including tractors, seed, fertilizer, bug spray, and so on, then he is operating in the long run, as the quantities of all his inputs used are variable. If the firm can alter any of the inputs that the firm uses to produce goods and services, then, by definition, the firm is operating in the long run. The Short Run IN THE SHORT RUN, SOME INPUTS ARE FIXED ALL FIRMS THAT EXIST CURRENTLY OPERATE IN THE SHORT RUN. In one important sense, all firms operate in the short run, because at any given point in time, the firm will have at least one fixed input. This simply means that the amount of one (or more) inputs used in the production process cannot be altered today, or possibly by next week, or by next month, or even next year. The volume of some inputs can be altered in less than
Background image of page 2
Image of page 3
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

Page1 / 10

13Lecture - LECTURE 13 THE THEORY OF THE FIRM We now begin...

This preview shows document pages 1 - 3. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online