Book cover for Intermediate Microeconomics: A Modern Approach

Intermediate Microeconomics: A Modern Approach

Hal R. Varian

ISBN #9780393927023

7th Edition

224 Questions

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Homework Questions

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Summary
Learning Objectives
Key Concepts
Example Problems
Explanations
Common Mistakes

Summary

This chapter section on Firm Supply outlines the decision-making process firms use to determine output levels under different market conditions. Emphasizing the role of marginal cost in short-run supply decisions and the benefits measured by producer's surplus, the chapter also details how to derive and interpret the inverse supply function and long-run supply curves assuming constant average costs. Special cases, such as the pricing of operating systems, illustrate exceptions to standard models.

Learning Objectives

1

Explain how firms decide on the amount of output to supply in various market environments.

2

Analyze the role of marginal cost in short-run supply decisions and determine producer's surplus.

3

Derive and interpret the inverse supply function and the long-run supply curves under constant average costs.

4

Examine special cases, such as pricing strategies for operating systems, within the framework of firm supply.

Key Concepts

CONCEPT

DEFINITION

Firm Supply

The quantity of goods a firm is willing and able to produce and sell at various prices in a given market.

Marginal Cost

The additional cost incurred in producing one more unit of output; a critical factor in determining short-run supply.

Producer's Surplus

The difference between what producers are willing to accept for a good versus what they actually receive, representing a measure of economic benefit.

Inverse Supply Function

A representation of the supply relationship where price is expressed as a function of quantity supplied, often used to analyze market dynamics.

Long-Run Supply Curve

A supply curve that illustrates how a firm’s output decisions adjust when all factors, including technology and capital, can vary; specifically analyzed under the assumption of constant average costs.

Constant Average Costs

A scenario where the average cost per unit remains fixed regardless of the level of production, influencing long-run supply behavior.

Pricing of Operating Systems

A special case in firm supply where the pricing strategy may deviate from typical cost-based pricing mechanisms due to network effects or strategic positioning.

Example Problems

Example 1

A firm has a cost function given by $c(y)=10 y^{2}+1000 .$ What is its supply curve?

Example 2

A firm has a cost function given by $c(y)=10 y^{2}+1000$. At what output is average cost minimized?

Example 3

If the supply curve is given by $S(p)=100+20 p$, what is the formula for the inverse supply curve?

Example 4

A firm has a supply function given by $S(p)=4 p$. Its fixed costs are 100 . If the price changes from 10 to $20,$ what is the change in its profits?

Example 5

If the long-run cost function is $c(y)=y^{2}+1,$ what is the long-run supply curve of the firm?
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Step-by-Step Explanations

QUESTION

How does a firm decide the optimal output level in the short run based on its marginal cost?

STEP-BY-STEP ANSWER:

Step 1: Identify the marginal cost curve for the firm, which represents the cost of producing one additional unit.
Step 2: Determine the market price at which the firm operates under pure competition.
Step 3: Compare the market price to the marginal cost for each level of output. The firm supplies additional units as long as the price is greater than or equal to the marginal cost.
Step 4: The optimal output level is where price equals marginal cost, ensuring maximum profit or minimal loss.
Final Answer: The firm produces up to the point where the marginal cost of production equals the market price.

Determining Short-Run Supply Using Marginal Cost

QUESTION

How is the inverse supply function derived and what does it signify in the context of firm supply?

STEP-BY-STEP ANSWER:

Step 1: Start with the standard supply function, which relates quantity supplied (Q) to price (P).
Step 2: Rearrange the supply function algebraically to express price as a function of quantity supplied, resulting in the inverse supply function.
Step 3: Interpret the inverse function as showing the minimum price required to supply a particular quantity, providing insights into the price-quantity relationship.
Step 4: Use the inverse supply function to analyze market behavior, especially in understanding how changes in supply levels affect prices.
Final Answer: The inverse supply function, derived by solving the supply equation for price, reflects the minimum price needed to produce a specific quantity and aids in market analysis.

Deriving the Inverse Supply Function

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Common Mistakes

  • Confusing the role of marginal cost with average cost in short-run decision making.
  • Assuming that the inverse supply function is simply the reciprocal of the supply function rather than understanding its derivation and interpretation.
  • Overlooking unique market conditions and exceptions, such as the pricing of operating systems, that require a broader analysis beyond standard models.
  • Neglecting the differences between short-run and long-run supply decisions, particularly the adjustment of all factors in the long run.