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This 7 page Class Notes was uploaded by Megan Henrichs on Tuesday September 6, 2016. The Class Notes belongs to AGR 110 at Illinois State University taught by Michelle Kibler in Fall 2016. Since its upload, it has received 3 views. For similar materials see Introductory Agricultural Economics in Agriculture at Illinois State University.
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Date Created: 09/06/16
Chapter 9 Monday, August 29, 2016 2:31 PM Making decisions 9.1: Different cost terms 9.1a: Explicit costs: a cost that involves actually laying out money 9.1b: implicit costs: does not require an outlay of money; it is measured by the value, in dollar terms, of the benefits that are forgone. o Remember Principle 2: The real cost of an item is its opportunity cost o Remark: Opportunity costs consist of explicit and implicit costs (but not all explicit costs are part of opportunity costs; careful, the book leaves the wrong impression on this) 9.2: accounting Profit vs. economic profit 9.2a: the accounting profit: of a business is the business’s revenue minus the explicit costs and depreciation. 9.2b: the economic profit: of a business is the business’s revenue minus the opportunity cost of its resources. It is often less than the accounting profit. 9.3: capital 9.3a: The capital of a business is the value of its assets—equipment, buildings, tools, inventory, and financial assets. 9.3b: 9.3b: The implicit cost of capital is the opportunity cost of the capital used by a business— the income the owner could have realized from that capital if it had been used in its next best alternative way. Example, first part: o Example of a corn farmer o His payments for land and equipment rental and for other supplies: $10,000 o Only other input (other than land, equipment, etc): his own labor o Other employment opportunity: salary of $11,000 o Apart from the matter of pay, he is indifferent between farming and the other job o His revenue from farming: $22,000 Economics in Action: Farming in the Shadow of Suburbia o 1880, more than 1/2 of New England's land was farmed; by 2006, it was down 10%. o Remaining farms of New England are mainly located close to large metropolitan areas. Farms get high prices for their produce from city dwellers who are willing to pay a premium for locally-grown, extremely fresh fruits and veggies. o Maintaining the land instead of selling it to property developers constitutes a large implicit cost of capital(land). o 2/3 of New England's farms remaining in business earn very little money but nevertheless, they are maintained out of a personal commitment and satisfaction derived from farm life. Opportunity costs of tradable permits: o In many countries, power companies need "permits" for each ton of CO2 they emit. These permits can be sold to other companies if they are not used. o At the beginning of a year, a government can decide to auction off these permits [and companies have to pay for them] or they can be just given out for free. o The EU decided to give them out for free. o But power companies still raised their electricity prices as if they had paid for the permits. Why? o How they got the permits does not matter for the opportunity cost[how much it would be sold to other companies for] of the permits. "How much" vs. "either-or" decisions "how much" - most used "either-or" How many days before you do laundry? Tide or Cheer? How many miles do you go before an oil change in your Buy a car or not? car? How many jalapenos on your nachos? An order of nachos or sandwich? How many workers should you hire in your company? Run your business or work for someone else? How much should a patient take of a drug that generates Prescribe drug A or drug B for patients? side effects? How many troops do you allocate to your invasion force? Invade at Calais or in Normandy? 9.4: Marginal Cost o The marginal cost of producing a good or service is the difference between the total cost of buying 1 vs more unit of that good or service. 9.5: Constant and Increasing Marginal Cost o Production of a good or service has constant marginal cost when each additional unit costs the same to produce as the previous one (as in Babette's example) o Increasing marginal cost: each unit of a good costs more to produce than the previous one (more common; "low-hanging fruits" least costly for me to get, more costly when the fruits are higher up in a tree) 9.6: Marginal Benefit o The marginal benefit of producing a good or service is the additional benefit earned from producing one more unit of that good or service. 9.7: Decreasing Marginal Benefit o There is decreasing marginal benefit from an activity when each additional unit of the activity produces less benefit than the previous unit o This is usually the case for most activities - for an individual, a firm, or society at large. 9.8: Marginal Analysis (the heart of economics) o The optimal quantity of any activity is the quantity that generates the maximum possible total net gain. o THE RULE: The principle of marginal analysis says that the optimal quantity is the quantity at which marginal benefit is equal to marginal cost. If there is no quantity at which MB = MC, then choose the largest quantity, at which MB > MC MB = MC 9.9: Sunk Cost o Sunk cost: a cost that has already been incurred and is non- recoverable o A sunk cost should be ignored in decisions about future actions o "There is no use crying over spilled milk" Marginal benefit backwards: first is $0, for one is + $4.30 + $2.5 and so on… Net gain = marginal benefit - marginal cost $0.10 is the optimal point - [as close 0 as possible - max total net gain] Optimal point is where the lines cross. Highest total net gain = $6.40
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