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Unformatted text preview: EEP 101/Econ 125 Section 2 Diana Lee Spring 2010 1 Big picture: The Firms Problem Pretty much everything we do in this class is related to solving a profit maximization problem under different scenarios. Most of us use shortcuts to solve these problems by setting price equal to marginal cost (or marginal revenue equal to marginal cost, etc.), but lets take a moment to go back and see where these solutions come from. Its always helpful to be able to set up the the original problem whenever you are stuck for where to start. Profit=Total RevenueTotal Cost = TR TC = P Q MC Q Recall that whenever we want to optimize something, we take the derivative and set it equal to zero. (This is because the derivative represents the slope of the curve, and at a maximum, the slope is zero since you are at a peak.) Therefore, the solution is where d dQ = d ( MPB Q ) dQ d ( MPC Q ) dQ , where MPB represents marginal private benefit (the demand curve) and MPC represents marginal private cost (the supply curve). In the rest of the handout, we will go through the math and graphs of the different examples. THE ONLY DIFFERENCE between the cases is that sometimes, a firm has control over the price they receive from consumers, the price they pay to producers, or or both. 2 Four markets 2.1 Perfect competition Under perfect competition, there are multiple firms on the buyer and seller sides and everyone is a price taker. This means that no matter how much each firm buys or sells, they do not affect the price that the product costs or sells for. This happens when each firm represents a relatively small portion of the market. (It actually doesnt take that many firms to result in something close to a competitive market.) 1 Market Equilibrium: This is the easiest case where Supply=Demand. Recall that the supply and demand curves are for market supply and market demand. Thus, it is incorrect to solve for the equilibrium using the profit maximization problem for a single firm. If you were trying to solve for a single firms production, you would plug in for the market price (as solved from supply=demand) and substitute for that firms total cost function....
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This note was uploaded on 09/24/2011 for the course ECON C125 taught by Professor Zelberman during the Spring '09 term at University of California, Berkeley.
 Spring '09
 ZELBERMAN

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