Chapter 8/Output, Price, and Prot: The Importance of Marginal Analysis
CHAPTER 8
OUTPUT, PRICE, AND PROFIT: THE
IMPORTANCE OF MARGINAL ANALYSIS
TEST YOURSELF
1. Suppose that the firm’s demand curve indicates that at a price of $10 per unit, customers
will demand 2 million units of its product. Suppose that management decides to pick
both price and output; the firm produces 3 million units of its product and prices
them at $18 each. What will happen?
Unfortunately for the firm, exchange is voluntary. Assuming that the demand
2. Suppose that a firm’s management would be pleased to increase its share of the market
but if it expands its production, the price of its product will fall. Will its profits
necessarily fall? Why or why not?
If the firm was previously in a profit-maximizing situation, then a decision to
3. Why does it make sense for a firm to seek to maximize total profit rather than to
maximize marginal profit?
One presumes that the owners of the firm would like to get as rich as possible. As
such their goal is not to make as much profit as possible on one unit which would be the
4. A firm’s marginal revenue is $133 and its marginal cost is $90. What amount of profit
does the firm fail to pick up by refusing to increase output by one unit?
5. Calculate average revenue (AR) and average cost (AC) in Table 3. How much profit does
the firm earn at the output at which AC = AR? Why?
Chapter 8/Output, Price, and Prot: The Importance of Marginal Analysis
Garages TR AR TC AC TP
0 0 0 12 — –12
1 30 30 40 40 –10
2 56 28 56 28 0
6. A firm’s total cost is $1,000 if it produces one unit, $1,600 if it produces two units, and
$2,000 if it produces three units of output. Draw up a table of total, average, and
marginal costs for this firm.
Total Average Marginal
Output Cost Cost Cost
7. Draw an average and marginal cost curve for the firm in Test Yourself Question 6.
Describe the relationship between the two curves.
Chapter 8/Output, Price, and Prot: The Importance of Marginal Analysis
FIGURE 1
8.A firm has the demand and total cost schedules given in the following table. If it wants
to maximize profits, how much output should it produce?
Quantity Price Total Cost
1 $6 $ 1.00
2 5 2.50
DISCUSSION QUESTIONS
1. “It may be rational for the management of a firm not to try to maximize profits.”
Discuss the circumstances under which this statement may be true.
Some firms are non-profit firms, and they definitely do not maximize profits. A
non-profit hospital may maximize service to its community, while a worker-owned
cooperative may maximize wages. But even for-profit firms may have other objectives as
Chapter 8/Output, Price, and Prot: The Importance of Marginal Analysis
ANSWERS TO APPENDIX QUESTIONS
TEST YOURSELF
1. Suppose that the following table is your record of exam grades in your Principles of
Economics course.
Exam Date Grade Comment
September 30 65 A slow start
October 28 75 A big improvement
November 26 90 Happy Thanksgiving!
December 13 85 Slipped a little
January 24 95 A fast finish!
Use these data to make up a table of total, average, and marginal grades for the five
classes.
Total Average Marginal
Date Grade Grade Grade
9/30 65 65 65
2. From the data in your exam-grade table in Test Yourself Question 1, illustrate each of
the rules mentioned in this appendix. Be sure to point out an instance where the
marginal grade falls but the average grade rises.
Rule 1a is illustrated on each line of the table. For example, on 11/26, the average
grade, 77, is equal to the total grade, 230, divided by the number of exams, 3. Rule 1b is
illustrated on each line. On 1/24, the total grade, 410, is equal to the average grade, 82,