hello everybody welcome back so this is the first of our virtual lectures for chapter seven which is cost and industry structure so we've moved on we're past the second exam now we're in the last section of the course so these are four chapters chapters seven eight nine and ten so all go together very closely these are all about the firms this is our firm theory section of the course so how do firms operate and we begin with talking about costs now what we're going to do with this cost chapter is this is this chapter is sort of a primer for the next three chapters so the next three chapters we're going to look at these individual industry structures and what if you don't know what that means i'll talk about that in just a little bit but in this chapter we're going to talk about cost that's going to cover basically the entire uh three chapters after that okay so let's get into it there's me three videos here this first one's gonna be about accounting economic profit then we're going to talk about structure and costs uh in the short run structure of cost in the long run okay so this is what i just said so in this section we're going to share decisions made by firms so that's where we're doing these four chapters is we're going to think go into the head of a fermented side how much output should firms produce what price should the firm charge how much labor should the firm employ etc the answer these questions is going to depend largely on the market structure so while those the questions were we're going to be after we're not going to answer them in this chapter what we're going to do is we're going to learn some tools this chapter they're going to help us answer those questions depending on the market structures of different firms so here are the four market structures we're going to deal with and this is sort of the organization of of these chapters is market structure is roughly defined by how competitive an industry is so we're the first market structure we're gonna learn which is next chapter chapter eight is what's called perfect competition perfect competition is a scenario when a firm is competing in a market that has many other firms okay what is the term many mean we'll talk about that next week how many does it need to be many and but most importantly in a perfectly comp competitive industry perfect remember we've learned we've seen perfect before in this class like perfectly elastic perfectly inelastic perfect usually in economics is this hypothetical extreme so perfect competition was the hypothetical most competitive industry can be and to make that true we assume the firms in perfect competition are all offering identical products identical no differences no uh discernible differences between the products at all then in chapter nine we go all the way to the other end of this strict the spectrum and we'll learn about monopoly and monopoly you've probably heard that term before monopoly is when there's no competition monopoly is going to be one firm competing in a market with no similar products so they don't have to worry about competitors at all okay more realistically firms are in between those two so in between perfect competition monopoly because monopoly is this extreme where there's no competition even if you have you know a patented medication there's probably other treatments other than that one medication or something and so a true monopoly might be a hypothetical extreme perfect competition that also might be hypothetical extreme because we're talking about identical products you know realistically there might be something that differs even in things that do seem identical okay so in between those that's what i'm covering chapter 10 is what's called monopolistic competition and oligopoly monopolist competition is going to be many firms but now we're going to relax that assumption of identical products i want to say procs are similar and then we're going to deal with oligopoly which is few firms whether the products are identical or something similar doesn't really matter we're just going to need a sort of a handful of firms and we'll talk about what makes that market different when we get to chapter 10. okay but for now we're going to talk about costs and the first thing we're going to do is we are going to talk about um why why costs are important okay so all firms the assumption we're going into with these chapters is all firms seek to maximize profit that's the assumption we're operating in that that businesses operate to make profit that's what their goal is and that's what their narrow focus is that's an assumption we're going to use from now throughout these chapters just like in chapter 6 our assumption was that people consumers excuse me seek to maximize utility they want the most satisfaction possible for a firm satisfaction is profit so we're going to assume they seek the most satisfaction possible okay so profit is equal to total revenue minus total cost so you've probably heard the term profit before just in case you don't know this definition i want to make sure this definition is explicitly clear that profit is equal to total revenue minus total cost so revenue is the amount you bring in by selling the cost is what you have to spend to sell whether that's ingredients paying workers paying rent for your building etc that's what costs are whereas revenue is the amount you bring in sales revenue when we break it down it's the price of your good times the quantity so if you're selling 10 pizzas for 20 that's 200 in revenue okay so we're gonna expand the revenue side later because what we're going to see is the revenue side depends really strongly on those market structures the cost side we're going to it's going to be a similar discussion no matter the market structure so that's why this chapter we're going to cover costs that that sort of covered them all okay the first we're going to do is we're going to have a discussion of the difference between explicit and implicit costs okay so let's distinguish between the two explicit costs are out-of-pocket payments okay these are typically monetary costs where you're spending money your bank account goes down you actually give somebody some money okay so wages rents supplies etc those are explicit costs so what are implicit costs remember way back when we talked about and we learned the term opportunity cost in chapter two and you had a question on the homework that asked you about the cost of going to college and you know there's yes there's tuition yes there's books yes there's fees there's also the opportunity cost of your time we're going back to that topic implicit costs are the opportunity cost of doing business the opportunity cost of the firm using their own resources the most common way to think about this is the owner's time okay time is valuable and so that is a cost of being in business is you have to invest time into it opportunity cost of buildings can matter too opportunity cost of money can matter too right let's say i invest a million dollars of my own money to start a business and i make fifty thousand dollars a year i made fifty thousand dollars a year but the if i invested a million dollars into the s p 500 i'd be expecting to make seven percent a year or seventy thousand dollars so while making fifty thousand dollars seems good i actually lost money likely by not taking that million dollars of putting in the stock market i know that's confusing but that's when you my opportunity cost if i use my resources to start my own business i better make more than i could have with my resources used outside of starting my business or else economically it was a bad decision okay so we're going to use this terms explicit and implicit cost to calculate profit and the first type of profit is accounting profit accounting profit is simply total revenue minus explicit costs so if you've taken accounting classes this is what you you you think when you hear the term profit this is the sort of profit that firms pay taxes on this is what most of the world thinks of when they think of profit we're also going to learn the term economic profit economic profit is total revenue minus those explicit cost but also minus those implicit costs and the reason we do this is because economic profit is going to give us a better picture an overall snapshot of whether it was an economically sound decision for a firm to be in business okay so implicit costs matter when we think about that just like we were talking about the decision to go to college it's not enough to just look at how much money you're paying to be in classes versus how much more money you think you're gonna make in your job you have to think those non-monetary costs and non-monetary benefits also okay so businesses typically report pay taxes on accounting profit economic profits that's the true economic success of a business okay so we're gonna do an example problem to excel to illustrate the difference between economic profit and accounting profit so fred currently works for a corporate law firm he is considering opening his own legal practice where he expects to earn 200 000 per year once he gets established to run his own firm he would need an office and a law court he has found the perfect hostage office which rents for fifty thousand dollars per year a law kirk clerk could be hired for thirty five thousand dollars per year if these figures are accurate would fred's legal practice be profitable so assume these are accurate two hundred thousand dollars in revenue and all he has to spend is fifty thousand dollars for rent thirty five thousand dollars per year for a law clerk okay so those are explicit costs office rental that's fifty thousand dollars he actually pays that's an explicit cost the locker clerk that's thirty five thousand dollars he actually plays that's an explicit cost so add that together his total explicit cost were eighty five thousand dollars per year remember he expects his revenue to be 200 000 per year so subtract the explicit cost of 85 000 per year we see an accounting profit of 115 000 a year so yes fred is making money he is making 115 dollars per year by starting his own law firm okay as far as out counting profits concerned yes that's profitable but remember the the first line of this story was fred is works for a corporate law firm that is concerned leaving to opening his own practice okay what if he was making 125 000 per year at his old firm do we still think this plan is profitable well now we have to consider the implicit cost that 125 000 per year he has to give up in order to start his own law firm is an implicit cost it's an opportunity cost remember the definition opportunity cost is what you have to give up to get something else so he's giving up 125 000 per year to get his own firm which was making what was 115 000 per year so if we take learn economic profit we see he's actually down he's actually in the red negative 10 000. fred is losing 10 000 okay that of course does not mean this is the bad choice fred still might prefer to start his own firm there are obviously some implicit benefits that we don't address here but purely from an economic profitability uh perspective for this venture is not profitable because he'd be making more money at his hundred twenty-five thousand dollars per year job than he would be starting his own business okay so that's it that's all for this first lecture uh you're gonna have a question like this in the homework and then the next lecture we're going to start cost in the short run