Econ 2 Files
Econ 2 Lecture
Notes
Lecture 19: Profit Maximization, Part 2
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Economics 2 |
Lecture 19: Profit Maximization, Part 2
the profit maximizing level of output
finding the profit maximizing level of output graphically
The Profit Maximizing Level of Output
- Marginal Cost
- MC is the additional cost of producing one more unit of output
- Marginal Revenue
- MR is the additional revenue obtained from selling one more unit of output
If
- MR > MC, the firm can increase its profits by producing more output
- MR < MC, it costs more to produce another unit of output than the firm can sell it for so the firm can increase its profits by producing less
| Price | QD | TR | TC | MR | MC | Profits |
| $5 | 0 | $0 | $3 | - | - | $-3 |
| 4 | 1 | 4 | 3.50 | $4 | $0.50 | 0.50 |
| 3 | 2 | 6 | 5 | 2 | 1.50 | 1.00 |
| 2 | 3 | 6 | 7.50 | 0 | 2.50 | -1.50 |
| 1 | 4 | 4 | 11 | -2 | 3.50 | -7.00 |
| 0 | 5 | 0 | 15.50 | -1 | 4.50 | -15.50 |
The firm will continue to expand output as long as marginal revenue is greater than marginal cost because doing so adds to the firm's profits. Once MR equals MC, any further increase in output lowers the firm's profits. When the firm can produce fractional units of the good, the firm maximizes profits by producing the quantity of output where MR = MC. There is no other level of output which gives greater profits.
Finding the Profit Maximizing Level of Output Graphically
 | When the firm can produce fractional units of the good, profits are maximized at the quantity at which MR = MC. Graphically, this occurs where the marginal revenue and marginal cost curves intersect. Drop straight down from the point of intersection to find the profit maximizing quantity of output, Q* = 12. To find the profit maximizing price, follow Q* up to the demand curve and over to the vertical axis, P* = $6. The average cost of producing Q* are found on the ATC curve. AC* = $4. The firm sells each unit of output for $6; it costs the firm $4 to produce each unit of output. Profits per unit of output are the price, $6, minus the average cost of $4, which equals $2. Multiply the per unit profits of $2 by the profit maximizing quantity of output, 12, to get total profits of $24. Graphically, profits are equal to the cross-hatched area. |
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