Revenue, Profits, and Price: Crash Course Economics #24

Name: Revenue, Profits, and Price: Crash Course Economics #24
Uploaded: 2016-02-17T23:52:14.000Z
Duration: 22 min 10 s

Welcome to Crash Course Economics

In this section, the hosts introduce the concept of economics and its relevance in understanding real-life scenarios. They discuss the difference between microeconomics and other business-related courses and emphasize how economics can help entrepreneurs make better decisions.

The Concept of Profit

Economists recognize that there is a cost missing from traditional accounting profit: opportunity cost. This refers to the income or benefits that are foregone when making a particular decision.

There are two types of profit: accounting profit, which considers only explicit costs, and economic profit, which includes both explicit and implicit costs.

Implicit costs are indirect opportunity costs that need to be factored in when making decisions.

Putting a price on opportunity cost may seem strange, but it is something we do all the time when considering the value of things we have to give up.

Businesses calculate their potential revenue and production costs, including implicit costs, to make informed decisions.

Costs of Production

This section focuses on the different types of costs involved in production. It explains variable costs and fixed costs and how they contribute to the total cost per unit.

Variable Costs vs Fixed Costs

Variable costs change with the amount produced, such as ingredients for a pizza restaurant or wages paid to workers.

Fixed costs remain constant regardless of production levels, such as rent or equipment expenses.

Total cost is composed of both fixed and variable costs for a specific number of units produced.

Average Cost

Average cost refers to the cost per unit produced.

Initially, average cost decreases as more units are produced because fixed costs can be spread over a larger number of units.

As an example, buying expensive equipment makes sense if there is an expectation of producing a large quantity.

The transcript does not provide timestamps beyond 4 minutes and 35 seconds.

The Cost of Production and Economies of Scale

This section discusses the relationship between production costs and economies of scale. It explains how larger companies can benefit from lower average costs per unit due to spreading fixed costs over a larger number of units.

The Impact of Scale on Costs

Larger companies that produce more can take advantage of economies of scale.

By producing a greater number of units, fixed costs can be spread out, resulting in lower average costs per unit.

Small businesses often face higher average costs compared to large companies due to their inability to achieve economies of scale.

Example: Car Manufacturing

Producing a single car would have very high production costs.

However, the average price of a new car in the US is over $33,000.

To keep the average cost down, car manufacturers produce hundreds of cars per day in expensive factories.

While total costs are astronomical, the average cost per car remains relatively low.

Economies of Scale

Companies that produce more can use mass production techniques and spread their fixed costs across a large number of units.

This concept is known as economies of scale.

Some companies become dominant in their industry by leveraging economies of scale to limit competition.

Optimizing Profit through Marginal Revenue and Marginal Cost

This section explains how companies optimize profit by following the rule of profit maximization. It introduces the concept of marginal revenue (MR) and marginal cost (MC) and emphasizes producing where MR equals MC.

Maximizing Profit

Companies aim to maximize profit by producing at a level where marginal revenue (MR) is equal to marginal cost (MC).

The rule is often simplified as "produce where MR equals MC."

Marginal Revenue and Marginal Cost

Marginal revenue (MR) is the additional revenue earned from selling one more unit.

Marginal cost (MC) is the additional cost of producing one more unit.

To determine whether to produce an additional unit, a company compares the marginal revenue with the marginal cost.

Example: Pizza Restaurant

If a pizza company can sell each pizza for $10, then the marginal revenue for each pizza is $10.

The marginal cost is the additional cost of producing another pizza.

If the marginal cost of producing another pizza is lower than $10, it would be profitable to produce that pizza.

The Law of Diminishing Marginal Returns

This section introduces the concept of diminishing marginal returns and its application in various tasks. It explains how adding more variable resources eventually leads to decreasing additional output.

Diminishing Marginal Returns

The law of diminishing marginal returns states that as more variable resources are added to a fixed number of resources, the additional output generated by each additional resource will eventually decrease.

This concept applies to various tasks, including pizza production and farming.

Example: Pizza Production

Initially, when hiring a second worker in a pizza restaurant, specialization reduces the marginal cost per pizza.

However, as more workers are hired, the total number of pizzas produced per hour increases at a slower rate due to diminishing marginal returns.

Eventually, hiring an additional worker may only add one more pizza per hour but at a significantly higher marginal cost.

Maximizing Profit through Optimal Quantity

This section emphasizes that companies should produce an optimal quantity where the marginal cost does not exceed the marginal revenue. It highlights that maximizing profit requires producing the right number of units rather than minimizing average costs.

Producing Optimal Quantity

To maximize profit, a company should produce the optimal quantity where the marginal cost does not exceed the marginal revenue.

The goal is to produce the number of units that maximizes profit, not necessarily to have the lowest average cost.

Example: Pizza Restaurant

A pizza restaurant should ensure that the marginal cost of producing an additional pizza is not higher than the marginal revenue earned from selling it.

If the marginal cost exceeds the marginal revenue, producing that additional pizza would result in a loss rather than maximizing profit.

The Law of Diminishing Marginal Returns in Various Tasks

This section reiterates the concept of diminishing marginal returns and its application in different tasks. It emphasizes that while there may be initial gains from adding more resources, eventually, each additional resource will contribute less to overall output.

Application to Different Tasks

The law of diminishing marginal returns applies to various tasks beyond pizza production.

For example, farmers may experience diminishing returns when fertilizing their fields. Initially, there may be significant yield increases with each round of fertilization, but over time, these gains diminish.

Timestamps are approximate and may vary slightly depending on video playback.

Obtaining Lower Returns

In this section, the speaker discusses how studying for long hours can lead to diminishing returns. They mention that after a certain point, such as the twelfth hour of studying, the degree of understanding may actually decrease due to exhaustion and falling asleep during exams.

Understanding Diminishing Returns

Studying for long hours can result in diminishing returns.

After a certain point, like the twelfth hour of studying, the degree of understanding may decrease.

Exhaustion and falling asleep during exams can contribute to lower performance.

Sunk Costs

This section explains the concept of sunk costs in economics. Sunk costs are costs that have already been paid and cannot be recovered. Economists emphasize that sunk costs should not be considered when making future decisions.

What are Sunk Costs?

Sunk costs are costs that have already been paid and cannot be recovered.

When making future decisions, it is important to exclude sunk costs.

For example, if a company spends $2 million on developing a new product but no one wants it, they need to move on and consider other options.

The money spent on developing the first product is a sunk cost and should be ignored when moving forward.

Irrational Decision Making

This section highlights how people often make irrational decisions by ignoring sunk costs. The example given is staying in a relationship despite red flags because of the time invested.

Irrational Decision Making

People frequently make irrational decisions by ignoring sunk costs.

Staying in a relationship despite red flags is an example of this behavior.

The reluctance to give up on a relationship after investing significant time is influenced by ignoring sunk costs.

Economists suggest focusing on future benefits and costs rather than dwelling on sunk costs.

Final Thoughts

In this section, the speakers conclude the video by summarizing key points. They mention that while economics provides a general framework for business decision-making, becoming an entrepreneur and starting a business requires more in-depth knowledge.

Key Takeaways

Economics provides a general framework for business decision-making.

However, to become an entrepreneur and start a business, additional knowledge is necessary.

The video concludes with gratitude for watching and encourages further exploration of economics.

Acknowledgments

This section acknowledges the contributors who helped create the Crash Course Economics series. Viewers are encouraged to support Crash Course through Patreon to help keep the content free for everyone.

Acknowledgments and Support

The Crash Course Economics series was created with the help of various contributors.

Viewers can support Crash Course by subscribing on Patreon.

Supporting Crash Course helps maintain free access to educational content for everyone.

Marginal Revenue

This section briefly mentions marginal revenue but does not provide detailed information. It encourages viewers to watch other videos or seek additional resources for a deeper understanding of the topic.

Marginal Revenue

Marginal revenue is briefly mentioned as additional income obtained.

For more detailed information on marginal revenue, viewers are directed to other resources or videos.