ECON-B251 Final Exam qustions and
answers
What is a firm's goal?✔✔maximize economic profit
Accounting Profit✔✔- daily, weekly, monthly recordings of all bills/costs paid by the
firm
doesn't fully measure opportunity cost
Economic profit✔✔the total revenue - total costs: explicit and the opportunity costs
paid by the firm (implicit)
this is the profit that is referred to when it says a firm's profit
firms make decisions off economic profit
Opportunity cost✔✔explicit costs (out of pocket) + implicit (alternative uses for the
resources) costs
Explicit costs✔✔ex: costs recorded using accounting method
- direct costs: labor, resources, etc
Implicit costs✔✔1 - Alternate resources - how the resources used could have been
used (the next best option) - physical capital can be used elsewhere
2 - interest foregone - when you take money out of the account, it loses the interest it
could have gained if you left it in there - also depreciation
3 - owner's time - they could have used their time doing something else
Normal profit✔✔income associated with the entrepreneur
2 types of organization systems✔✔1 - Command system
- chain of command
managerial hierarchy to organize factors of production
workers follow the orders of their boss
2 - Incentive System - managerial method organizing factors of production through
incentives
- ex: money
workers are incentivized to work more through stuff like higher pay
Information economics✔✔information has value because it impacts the decisions of
buyers and sellers
Perfect information✔✔when everyone involved both buyers and sellers have the
complete and truthful information
- happens in a perfect competitive market
, Imperfect information✔✔when all individuals involved do not have all the complete
and truthful information
Symmetric information✔✔when all individuals have the same amount of information
Asymmetric information✔✔when all individuals dont have the same amount of
information
Adverse selection✔✔when either the buyers or sellers have more information than
one another
- this allows one side to have the advantage over the other side and use this extra
info to maximize their economic surplus.
Moral Hazard✔✔when an individuals knows that they will not have to reap the
consequences of their actions, they are more likely to engage in more risky behavior.
ex: when someone has car insurance, they are more likely to drive harshly because
they know that they will be covered and will not have to pay the TOTAL costs.
Principal-agent problem✔✔When the manager and worker do not have the same
goal and one person's actions adversely affect the other because their goals are
opposite of one another
- business owner wants to maximize profit for the firm
- worker wants to maximize their salary, and minimize their working costs
- problem is when the worker gets a higher salary, the firms costs go up and the
profit goes down
firms use the incentive system to combat this problem and organize production.
Propreitorship✔✔sole owners
- owners make all decisions and keep all the profit but they bear all the costs and are
responsible for all debt to the firm
- unlimited liability - their personal belongings can be taken as collateral
Partnership✔✔more than 1 owner
- responsibility is divided amongst the partners
cost of partnership = unlimited personal liability of the firm's debts
- all partners share in the expenses - disagreements can be a cost
Corporation✔✔- owners of the firm are shareholders
- limited liability
- shareholders are not responsible for the company's debt
- cost to corporation is double tax liability - profits are taxed 1st
- dividend income is paid to shareholders and shareholders can influence firms
decisions.
Perfect competition✔✔no one producer or consumer can influence the market price
many buyers and sellers
easy entry and exit
answers
What is a firm's goal?✔✔maximize economic profit
Accounting Profit✔✔- daily, weekly, monthly recordings of all bills/costs paid by the
firm
doesn't fully measure opportunity cost
Economic profit✔✔the total revenue - total costs: explicit and the opportunity costs
paid by the firm (implicit)
this is the profit that is referred to when it says a firm's profit
firms make decisions off economic profit
Opportunity cost✔✔explicit costs (out of pocket) + implicit (alternative uses for the
resources) costs
Explicit costs✔✔ex: costs recorded using accounting method
- direct costs: labor, resources, etc
Implicit costs✔✔1 - Alternate resources - how the resources used could have been
used (the next best option) - physical capital can be used elsewhere
2 - interest foregone - when you take money out of the account, it loses the interest it
could have gained if you left it in there - also depreciation
3 - owner's time - they could have used their time doing something else
Normal profit✔✔income associated with the entrepreneur
2 types of organization systems✔✔1 - Command system
- chain of command
managerial hierarchy to organize factors of production
workers follow the orders of their boss
2 - Incentive System - managerial method organizing factors of production through
incentives
- ex: money
workers are incentivized to work more through stuff like higher pay
Information economics✔✔information has value because it impacts the decisions of
buyers and sellers
Perfect information✔✔when everyone involved both buyers and sellers have the
complete and truthful information
- happens in a perfect competitive market
, Imperfect information✔✔when all individuals involved do not have all the complete
and truthful information
Symmetric information✔✔when all individuals have the same amount of information
Asymmetric information✔✔when all individuals dont have the same amount of
information
Adverse selection✔✔when either the buyers or sellers have more information than
one another
- this allows one side to have the advantage over the other side and use this extra
info to maximize their economic surplus.
Moral Hazard✔✔when an individuals knows that they will not have to reap the
consequences of their actions, they are more likely to engage in more risky behavior.
ex: when someone has car insurance, they are more likely to drive harshly because
they know that they will be covered and will not have to pay the TOTAL costs.
Principal-agent problem✔✔When the manager and worker do not have the same
goal and one person's actions adversely affect the other because their goals are
opposite of one another
- business owner wants to maximize profit for the firm
- worker wants to maximize their salary, and minimize their working costs
- problem is when the worker gets a higher salary, the firms costs go up and the
profit goes down
firms use the incentive system to combat this problem and organize production.
Propreitorship✔✔sole owners
- owners make all decisions and keep all the profit but they bear all the costs and are
responsible for all debt to the firm
- unlimited liability - their personal belongings can be taken as collateral
Partnership✔✔more than 1 owner
- responsibility is divided amongst the partners
cost of partnership = unlimited personal liability of the firm's debts
- all partners share in the expenses - disagreements can be a cost
Corporation✔✔- owners of the firm are shareholders
- limited liability
- shareholders are not responsible for the company's debt
- cost to corporation is double tax liability - profits are taxed 1st
- dividend income is paid to shareholders and shareholders can influence firms
decisions.
Perfect competition✔✔no one producer or consumer can influence the market price
many buyers and sellers
easy entry and exit
