Theory+of+firm+answers


 * P2 May 07 **

Answers may include: definition of the short-run definition of law of diminishing returns increasing output initially increases MP which pulls up AP as fixed factors are increasingly employed, so changes in MP and AP slow down and reverse MP cuts AP from above carefully labelled diagrammatic representation
 * Explain the law of diminishing returns using average and marginal product curves. **

Answers may include: •a carefully drawn and accurately labelled diagram illustrating profit maximization •explanation of the diagram •profit only maximized where MC = MR •profit maximization as a goal of the firm •a carefully drawn and accurately labelled diagram illustrating sales revenue maximization •explanation of the diagram •revenue only maximized where MR = 0, or where TR is at its maximum •sales revenue maximization as a goal of the firm. A maximum of [6marks] for a candidate who explains only one of the goals of the firm.
 * P2 May 08 **
 * Using at least one diagram, explain the difference between profit maximization and sales revenue maximization as goals of the firm **.

Definition •definition of short-run •definition of marginal cost (MC) •possible explanation of MC in terms of marginal product (MP) – diminishing returns •definition of average total cost (ATC) •diagram showing marginal cost (MC) and average total cost (ATC) •possible explanation of ATC in term of average product (AP) – diminishing returns •MC cuts ATC at lowest point •Explanation in terms of impact of marginal cost (MC) changes on average total cost (ATC) •derived from MP cuts AP at highest point. A very good verbal discussion can score up to [7 marks] without diagrams.
 * May 05 **
 * Explain the relationship in the short-run between the marginal costs of a firm and its average total costs. **

• short run versus long run • definition of law of diminishing returns • definition of economies of scale • diagram illustrating law of diminishing returns, this may be product curves and/or short run cost curves • diagram illustrating economies of scale using long run cost curves • explanations of the above and of the linkage between the two concepts Allow a maximum of [6 marks] if no diagrams are used.
 * Nov 05 **
 * Using appropriate diagrams, explain the difference between the law of diminishing returns and economies of scale. **

Answers may include: •definitions of efficiency: allocative and productive efficiency • the firm in perfect competition: in long-run equilibrium the firm is allocatively and productively efficient •correctly drawn and labelled diagram •explanation of perfect competition • the firm in monopoly in long-run equilibrium the firm is neither allocatively nor productively efficient •correctly drawn and labelled diagram •explanation of monopoly •dynamic efficiency: increased profits of monopoly used for investment leading to greater output and lower prices than in perfect competition (economies of scale) •correctly drawn and labelled diagram
 * May 06 **
 * Using appropriate diagrams, discuss whether monopoly is more efficient or less efficient than perfect competition. **

Candidates may include any of the following: •definition of monopoly •distinction between revenue and profit •diagram including an AR(D), MR and MC curve •diagram should show profit maximizing level of output (MC = MR) •diagram should show revenue maximizing level of output (MR = 0) •an explanation that when there is a move from profit maximization to revenue maximization, output will increase and the price of the good will fall
 * Nov 06: **
 * A monopoly firm decides to maximize revenue rather than profit. Use a diagram to explain what will happen to price and quantity. **

Answers may include: definition of the market structure of an oligopoly characteristics of the market structure with the emphasis on interdependence distinction between collusive and non-collusive oligopolies diagrammatic representation of the kinked demand curve as a description of a non-collusive oligopoly explanation of the kinked demand curve (with reference to the diagram) as a justification for non-price competition examples of non-price competition: –product differentiation – increased inducements to consumers to purchase a largely unchanged product: gifts and coupons for example – advertising/marketing.
 * Nov 09: **
 * Explain the nature of competition in a non-collusive oligopoly. **

•definition of monopolistic competition. •definition of supernormal (abnormal) profits •diagram showing a firm in monopolistic competition earning supernormal (abnormal) profits in the short run •supernormal (abnormal) profits are eroded away in the long run because of a lack of barriers to entry • diagram with an explanation showing the long run equilibrium of a firm in monopolistic competition
 * Specimen Paper: **
 * To what extent can a firm in monopolistic competition earn supernormal (abnormal) profits? **