in the last video we looked at this example of Brian's bread Baking Company and we saw how with fixed Capital such as a limited number of ovens the marginal cost of producing more bread is increasing let's say I'm able to sell bread for 70 cents per loaf how many Bakers do I want to put on the schedule if I bring in only one Baker they will produce 30 loaves per hour and I will pay them 15 for that hour of work that means the marginal cost of each loaf is 50 Cents ignoring other variable costs which for the purposes right now we'll just say are negligible I definitely want to bring this Baker in they will make me 70 cents per loaf but cost me only 50 cents per love I gain the difference bringing in the second Baker for the day will cost me another 15 per hour but they only increase the output by 25 loads due to the law of diminishing marginal returns that means the marginal cost of each loaf is 60 cents but that's still less than 70 cents which I earn selling those loads of bread so this is a good idea too but a third Baker only adds 20 loads which sets the marginal cost at 75 cents which is more than I earn selling the bread it would not be a good idea to schedule this third person each day because the benefits just aren't enough to overcome the costs this thinking is what motivates our profit maximizing rule marginal revenue is the money earned by selling one more unit of a good in a competitive market this will be the market price marginal cost is the cost of producing one more unit of a good in the short run these are increasing with quantity produced and so as you continue to produce more and more of a good you'll typically see your sale price stay the same meaning your marginal revenue stays the same but your marginal costs are going to be increasing up and up and so you want to continue to produce until those marginal costs rise up to be equal to marginal revenue that is the profit maximizing rule continue to produce more until marginal revenue is equal to marginal cost let's dig into that before returning to our bread baking business one clear example of this is oil the price paid for oil is determined by the market and individual oil producers are only able to sell at the price the market is currently paying it fluctuates with changing market conditions of course but at any given time you can sell as much oil as you have at that going price that is the marginal revenue per barrel of oil produced but the cost of producing oil is not flat it's really cheap to harvest oil which is bubbling up from the ground you can watch an old movie like giant to see what that's like even if the price of oil is really low it would be profitable to harvest this easy to get oil but to get oil deeper in the ground you need expensive Wells the deeper the oil the more expensive it is to get and there's even oil under the ocean floor and to get that oil we need huge oil rigs capable of digging deep into the Earth obviously the first barrels of oil we produce will be the easy and cheap ones and will only dig into the ocean floor if the price of oil is high enough to make that profitable it's easy to see how the marginal cost of producing oil goes up as we collectively produce more and more the firms will be incentivized to dig up oil only to the point where marginal cost meets the market price determining marginal revenue let's go through this step by step let's say that I've spent a bunch of money getting everything I need for my bread baking business I have ovens and baking equipment I have a staff and I'm also devoting my own time and effort to the project the Insight of the profit maximizing rule is that none of that matters when it comes to determining how much to produce all that matters is the cost of baking the next loaf of bread let's say that I can sell as many loaves of bread as I produce for one dollar each in order to produce my first love I will need to pay 10 cents in additional costs these are costs above and beyond the fixed costs I've already paid this is the marginal cost and it includes my opportunity costs I could after all call it a day and go home instead so this is saying that if I bake the first loaf of bread I will make one dollar but I will give up 10 cents All Things Considered should I do it of course I should I'm making 90 cents more than I need to make to make it worth it to bake this bread remember the 10 cents includes the opportunity cost of my time and effort if the story is the same for the second loaf of bread then I should produce this one too but take stock of what is happening the marginal revenue of the second loaf is one dollar if I produce and sell it I will make another dollar which means my total revenue would go up to two dollars but what about my costs the marginal cost is 10 cents that is what gets added to my total cost which includes all my fixed costs paid just to get started plus the 10 cents the first loaf of bread cost me to make nevertheless what matters here is that the marginal revenue exceeds the marginal cost and that means I end up better off if I produce and sell this second loaf of bread and on we go from there our marginal revenue stays the same but eventually our marginal costs start to rise this could be due to diminishing marginal returns Rising explicit costs or Rising implicit costs but alas we land here eventually marginal costs rise to meet marginal revenue the 75th loaf of bread would earn me another dollar but it cost me a Dollar too should I do it the answer is unambiguously yes remember remember this includes our implicit costs our opportunity costs we're paying less than one dollar out of pocket to produce this loaf of bread who knows it may cost us 10 cents out of pocket to bake this bread but it's late in the day now and we want to go home and so we need a little more to cover the opportunity cost of our time and effort the marginal cost is our bid we're willing to produce this loaf of bread so long as we are paid at least one dollar since we are being paid one dollar we're definitely willing to do it we would not produce the 76th loaf though here we're saying that we need a dollar and three cents to be willing to produce that is what we need to cover are explicit costs and our implicit costs if we only get a dollar then it's time to call it a day The Profit maximizing rule guides us to the profit maximizing quantity it's pretty simple if marginal revenue is greater than marginal cost keep going increase production until those marginal costs rise or in some cases the marginal revenues start to fall don't worry we'll learn about that soon once the marginal cost of producing one more is equal to the marginal revenue you get from selling it make that your last one produced that is when a firm stops producing