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10 -- Part 1: Understanding Monopoly
Smaller firms have higher costs than larger firms.
Walmart uses its size to get price breaks on bulk purchases from its suppliers.
Large firms benefit from more automation and specialization compared to their smaller competitors.
Retailers do not enjoy lower costs with additional sales.
Walmart can be undercut by online outlets that have lower costs and therefore lower prices.
Smaller firms have the lowest costs.
Smaller firms are not always at a disadvantage in terms of pricing when transportation and advertising costs are high.
They often have the edge.
Pizza Hut, Papa John's, Domino's and other national brands are found in most college towns.
The cheapest pizza special is usually the local shop, while the name brands charge more.
By the end of this chapter, you will understand why smaller and more nimble firms are able to undercut the prices of larger companies.
The chapter begins with an examination of costs and how they relate to production.
Firms can keep their costs low in the long run if they choose a scale of operation that best suits their needs.
Walmart has a distribution center.
To determine the potential profits of a business, the first step is to look at how much it will cost to run it.
Consider a Mcdonald's.
You may not know how an individual franchise operates, even though you are familiar with the products McDonald's sells.
The manager of a Mcdonald's has to decide how many workers to hire and how many to assign to each shift.
The equipment needed and what supplies to have on hand each day are some of the managerial decisions.
There is a complicated symphony of delivery trucks, workers, and managers behind each purchase a consumer makes at McDonald's.
It is not enough for a company to provide products that consumers want.
It has to manage both of its costs at the same time.
Profitability and costs are calculated in this section.
The simplest way to determine profit or loss is to divide total revenue by expenses.
McDonald's total revenue was opened in San Bernardino, California in 1940.
The firm adds the individual costs of the resources used to produce and sell the goods.
The dollar amount that the busi ness takes in over a specific period is used to calculate total revenue.
In a day, McDonald's sells 1,000 hamburgers for $1.00 each, 500 large fries for $2.00 each, and 100 shakes for $2.50 each.
The total revenue is $2,450.
The profit is $2,250, minus the total cost.
We don't simply tally the cost of making each hamburger, order of large fries, and shake, we have to calculate costs.
There are two parts to total cost, one visible and one largely invisible.
In the next section, we will see that determining total costs is both art and science.
Explicit costs and implicit costs are broken down by economists.
The use of owned resources means that the next- best alternative use for which no out- of- pocket is forgone islicit costs.
Let's look at an example.
An explicit cost is $1 million for a Mcdonald's franchise.
The next best option for investing $1 million is a high opportunity cost.
There is an implicit cost to each alternative.
It is hard to calculatelicit costs.
Determining how much an investor could have earned from an alternative activity is dif ficult.
We can be sure that there is an opportunity cost, but we don't know how much it is.
In addition to the opportunity cost of capital, implicit costs include the opportunity cost of the owner's labor.
Business owners don't pay themselves a direct salary.
It is reasonable to consider the fair value of the owner's time as part of the business's costs because they could have worked somewhere else.
A simple way of thinking about the difference between implicit and explicit costs is to consider someone who wants to build a bookcase.
If John purchases $30 in materials and takes half a day off from work, he would make $12 an hour.
He finished the bookcase after 4 hours.
His total cost is higher because he gave up 4 hours of work for $12 an hour.
His implicit cost is $48.
We get John's total cost when we add the explicit cost and implicit cost.
Now that we know about implicit and explicit costs, we can make a better definition of profit.
Accounting profit and economic profit are the two types of profit.
Costs from total revenue are included in accounting figures.
Accounting profit doesn't take into account the implicit by subtracting the costs of doing business We need explicit costs and implicit costs of business to calculate the full cost of doing business.
A firm's economic is derived from total revenue.
Economic profit gives an assessment of how a firm is doing.
Economic profit is always less than accounting profit.
Different types of firms have different accounting profits.
If a company with $1 billion in assets reports an annual profit of $10 million, we might think it is doing well.
The company's assets are only 1% of the total.
A 1% return is far less than the typical return available in a number of other places, including the stock market, bonds, or a savings account at a financial institution.
If the return on $1 billion in assets is low compared with what an inves tor can expect to make elsewhere, the firm with the $10 million accounting profit actually has a negative economic profit.
If the firm had invested $1 billion in a savings account, it would have earned 2%, which is $20 million.
Since the minus dollar amount is a loss, economic profit can be negative.
The revenue of a business is larger if it has an economic profit.
A business has an economic loss if its revenues are smaller than its costs.
The tangible value of implicit costs is difficult to calculate.
Kyle works during the summer to pay for college.
He made $2,500 last summer working at a fast food restaurant.
He will make $4,000 this summer as a painter.
We need to subtract the costs from the revenue to calculate economic profit.
Kyle will make $4,000 from painting.
His cost for supplies is $200 and his cost for the salary he would have earned in a fast food restaurant is $2, 500.
Kyle's economic profit will be $1,300 because of the explicit cost and implicit cost.
Suppose Kyle gets an internship at an investment bank.
A stipend of $3,000 and work experience will help him get a job after graduation.
The implicit costs have changed because Kyle now has to consider the stipend and the increased chance of securing a job after graduation versus what he can make painting houses.
Kyle's economic profit from painting would be only $800 at this point.
This number is not complete.
The internship experience has value.
If Kyle wants to work in investment banking after graduation, then this is the decision to make.
Every business has to decide how much to produce.
The factors that determine output and how firms use inputs are explained in this section.
It's possible for a firm to produce too little or too much, so we need to consider when it's time to stop production.
A product that consumers want is what a firm needs to earn an economic profit.
The costs must be controlled by the firm.
The firm needs to use resources efficiently.
McDonald's is an example.
Managers, cashiers, cooks, and janitorial staff are included in the labor input.
The land on which the McDonald's building is located is included in the land input.
The capital input includes the building, equipment, parking lot, signs, and hamburger patties.
A firm needs to find the right mix of inputs to keep costs down.
The relation ning of the chapter describes how the manager of a Mcdonald's must make many decisions between inputs.
Some of the land and capital will be used for productive purposes if she hires too little labor.
With too many workers and not enough land or capital, some will not be able to stay busy.
If only a single worker showed up at Mcdonald's, that would be a good example.
The employee will have to cook, bag up the meals, handle the register, and clean the tables.
The single worker will not be able to keep up with demand.
Two employees can start to specialize in what they do well when a second worker shows up.
specialization and comparative advantage lead to higher levels of output.
Individual workers will be assigned tasks that match their skills.
One worker can take the orders, fill the bags, and get the drinks.
The other can drive through the grill area.
McDonald's needs the correct amount of labor when a third worker comes on.
The process of specialization can be extended even further.
The way McDonald's operates is dependent on Specialization and division of labor.
If there are enough capital resources to keep each worker occupied, production per worker will expand.
The resources that each worker needs are readily available when only a few workers share capital resources.
The manager can hire more staff for the busiest shifts, but the amount of space for cooking and cash register are not fixed.
The restaurant's output will not be increased at the same rate as it was initially because the employees have less capital to work with.
If you've ever been to a fast food restaurant at lunchtime, you'll know this situation.
Even though the space behind the counter is busy, they can't keep up with the orders.
Some customers have to wait for a meal because there are only so many meals that can be made in a short time.
An adequate supply of materials is required by the restaurant.
If the restaurant runs out of hamburger patties, sales and total revenue will decrease.
The manager has to decide how many workers to hire for each shift and manage the inventory of supplies.
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