Consumer Behavior, Market Structure, and Production

• These are study notes on consumer behavior, market structure, and production costs.

Theory of Consumer Behavior

• Customer refers to the one who purchases the economic good, while the consumer is the one who utilizes it.
• Consumer opportunities represent the goods and services consumers can afford, influenced by consumer preferences.

Four Properties of Consumer Behavior

• Completeness assumes consumers can express preference, indifference, or non-preference between bundles.
• Indifference signifies viewing two bundles of goods as equally satisfying, providing the same utility level.
• More is better indicates that more of a good is always preferred over less.
• Diminishing Marginal Rate of Substitution occurs when the willingness to give up good Y for an additional unit of good X decreases as more of good X is obtained.
• Marginal Rate of Substitution (MRS) is the amount of good A willingly sacrificed for good B while maintaining utility, calculated as Qy/Qx.
• Transitivity assumes consumers use a consistent set of tastes or preferences when choosing between goods.

Indifference Curve and Budget Constraint

• An indifference curve connects points representing different bundles of goods that provide the same level of utility.
• An indifference map is a combination of indifference curves.
• A budget constraint restricts consumer behavior by limiting choices to affordable bundles.
• The budget line represents bundles of goods that exhaust a consumer's income.
• Budget Line Equation: PxQx + PyQy = M.
• The budget set represents the bundles of goods a consumer can afford.
• Budget Set Equation: PxQx + PyQy ≤ M.
• Marginal Rate of Transformation (MRT) is the slope of the budget line.

Consumer Optimization and Behavior

• Consumer optimization involves selecting the bundle that provides the most satisfaction given prices and budget.
• Consumer equilibrium is the affordable bundle that maximizes consumer satisfaction.
• Changes in income/price cause the budget line to shift.
• Consumer behavior encompasses all consumer decisions regarding acquisition, consumption, and disposition of goods, services, activities, experiences, people, and ideas, including tangible and intangible aspects.

Categories of Consumer Decisions

• Acquisition involves different methods of obtaining offerings like renting, leasing, or sharing.
• Consumption refers to the use of products, which can lead to satisfaction or regret.
• Disposition involves how consumers dispose of offerings through donations, sales, or recycling.

Dynamic Nature and Importance of Understanding Consumer Behavior

• Consumer behavior is a dynamic process where acquisition, consumption, and disposition can occur in varying orders and involve multiple decisions.
• Internal (psychological) or external (cultural & social) factors influence consumer behavior.
• Understanding consumer behavior helps develop effective strategies, identify target consumers, effectively position products, build long-term relationships, and increase sales.
• Non-profits use it to understand consumer motivations for donations, and consumers make better decisions amidst marketing.

Production Process & Costs

• Explicit costs require an outlay of money, while implicit costs do not.
• An example of explicit costs: A firm spends $30 million on labor, $7.5 million on capital, and $10 million on materials.
• An example of implicit costs: a firm's factory sits on land owned by the firm that could be rented out for $1.5 million per year.
• Economic profit is calculated as Total Revenue - (Explicit Cost + Implicit Cost).
• Accounting profit is calculated as Total Revenue - Explicit Cost.
• Economists view firms using revenue, explicit, and implicit costs, accountants only view explicit costs.
• Example: A firm with $50 million in sales, $47.5 million in explicit costs, and $1.5 million in implicit costs has an economic profit of $1 million while its accounting profit is $2.5 million.

Production Function

• Production function inputs can be readily changed in response to market changes, Q=F(K, L)Q=F(K, L).
• Short run: the time frame in which there exist fixed factors of production.
• Long-run is the horizon over which the manager can adjust all factors of production.
• Variable factors of production are inputs a manager can adjust to alter production.
• Fixed Factors of Production: Inputs that a manager cannot adjust in the short run.
• Total product is the maximum output level with given inputs.
• Average Product (AP) is the output per unit of input:
• Average product of labout is APL = Q/L
• Average product of capital is APK = Q/K
• Marginal Product (MP) is the change in total output from the last unit of input.
• Marginal Product of labour is MPL = ΔQ/ΔL
• Marginal Product of capital is MPK = ΔQ/ΔK
• Marginal Product/Returns is the increase in output from an additional unit of input.
• Diminishing Marginal Product/Returns occurs when the marginal product of an input declines as its quantity increases.
• Isoquants define the combinations of inputs (K and L) that yield the same level of output.

Properties of Isoquants

• Further isoquants from the origin indicate higher output levels.
• Isoquants do not cross and slope downward.
• Marginal Rate of Technical Substitution (MRTS) defines the combinations of inputs that yield the same level of output.
• Diminishing Marginal Rate of Technical Substitution happens with each additional unit of one input replacing diminishing units of the other input.
• An isoquant map represents a set of isoquants representing different output levels.
• An isocost line represents input combinations costing the producer the same amount.

Overview of Perfect Competition

• Perfect competition is characterized by many small firms and low entry barriers.
• Perfectly competitive firms produce identical products and are price takers, leading to perfectly elastic demand.
• Profit maximization occurs where marginal revenue equals marginal cost (MR = MC).
• In perfect competition, firms achieve allocative efficiency.
• Changes in demand/costs shift the supply curve, affecting market prices and firm profits.
• Market structure refers to the selling environment in which a firm produces and sells.

Market Structure Characteristics

• Degree of competition indicates more players lead to more intense competition
• Number of firms refers to the number of competitors in the market.
• Bargaining power of consumers denotes consumers' ability to influence the market price.
• Barriers to entry is the ease with which new businesses can enter the industry.
• Four Types of Market Structure: perfect competition, monopolistic competition, oligopoly, and monopoly.

Perfect Competition Characteristics, Revenue, and Decisions

• Multiple buyers and sellers exist with easy entry and exit.
• Firms produce homogeneous products and both buyers and sellers are price takers.
• Total revenue (TR) is calculated as TR = P × Q.
• Profit is defined as Profit = TR - TC.
• Decision to Shut Down: A firm should shut down if TR < VC or P < AVC.
• Short-Run Decisions: Firms produce where P > AVC and shut down if P < AVC.
• Long-Run Decisions: Exit if TR < TC or P = ATC.
• Long-Run Decisions: Enter if P > ATC.
• Profit Maximization Condition: max. profit at the quantity where MC = MR
• Graphical Representation: Profit and loss can be shown with relations between price, marginal cost, and average total cost.
• A Monopoly exists where there is one firm that is also the sole seller of product that does not have any substitutes in the market

Key Points on Firms in Competition

• Firms in perfect competition are price takers and face a horizontal demand curve.
• The relationship between marginal revenue and marginal cost is crucial for decision-making.

Barriers to Entry and Monopoly

• Monopoly resources: A control of essential resources for production
• Government regulation: Legal restrictions that prevent other firms from entering the market. Production process: Unique production processes that are not easily replicated.

Perfect Competition Characteristics, Revenue, and Decisions

• Natural monopolies occur when a firm's average total cost declines. In these cases, a single firm can supply the entire market at a much lower costs thatn multiple firms.
• Monopolistic firms' demand curve is downward sloping indicating that as price decreases, the quantity demanded increases.
• Marginal revenue also slopes downward and lies below the demand curve.

Profit Maximization and Graphs

• To maximize profits, a monopolist will produce at the quantity where marginal revenue equals marginal cost.
• The monopolist's profit can be calculated using Profit = Total Revenue − Total Cost or Profit = (P − ATC) × Q.
• Demand Curve slopes downward.
• Marginal Revenue Curve: Downward sloping and below the demand curve.
• Average Total Cost Curve: U-shaped
• Marginal Cost Curve: Upward sloping.
• To determine a monopolists profit you must Derive the MR curve from the demand curve, Find the quantity where MR equals MC, Identify the price on the demand curve corresponding to that quantity and check if the price exceeds the average total cost; the monopoly earns a profit.