Induction on

Preliminary Econometrics
(Basics on the Use of Mathematics on Economics)
Ace Institute of Management
Executive MBA Program

Session 3
Economic Application: Microeconomics
Instructor
Sandeep Basnyat
Sandeep_basnyat@yahoo.com
9841 892281

Calculus in Managerial Economics

Marginal Applications

Q
Marginal Product of the Labour (MPL) = L
TR
Marginal Revenue (MR) = Q
TC
Marginal Cost (MC) = Q
MPL can be obtained by finding first derivative of Q
(Total Product) with respect to Total Labour.
MR is found by differentiating TR with respect to Q
MC is found by differentiating TC with respect to Q

Exercise
Assume a cost function:
TC = 150Q 20Q2 +Q3
Find the Marginal cost for this function.

Ans:
2 +Q3)
d(150Q

20Q
d(TC)
MC = ____ =
dQ
dQ

MC = 150 40Q + 3Q2

Exercise
Given the cost function:
TC = 1000 + 10Q - 0.9Q2 + 0.04Q3
Find: MC, TVC, AVC functions

TC = 1000 + 10Q - 0.9Q2 + 0.04Q3

1) MC
= 10-1.8Q+ 0.12Q2
2) TVC
= 10Q - 0.9Q2 + 0.04Q3
3) AVC
= 10 - 0.9Q + 0.04Q2

Exercise
Suppose the Total Cost function (TC) = 500 + 20Q2
Total Revenue function (TR) = 400Q 20Q2
Find MC and MR functions.
MR = dTR / dQ = 400 - 40Q
MC = dTC / dQ = 40Q

Exercise
Suppose the Total Cost function (TC) = 500 + 20Q2
Total Revenue function (TR) = 400Q 20Q2
Assume that MC and MR are equal for this firm. How
much quantity (Q) will be produced at that level?
40Q = 400 - 40Q
Q = 5 units.

At, Q = 5, how much is

a) Total Revenue
b) Total Cost
c) Total Profit
d) Per unit selling Price

1500
1000
500
300

Exercise
Assume that demand function for a firm is:
P = 14 2Q. Find TR and MR for this firm.
TR = (14 2Q)Q = 14Q 2Q2
MR = 14 4Q

Assume that the firm has constant MC = 2. At the

level where MC = MR, find total quantity produced.
Q=3

At Q = 3, find: P, TR, TC and Profit.

P = 8;

TR = 24;

TC = 6;

Profit = 18

Economic Applications
Profit Maximization
Revenue Maximization
Average Total Cost or Average Cost
Minimization
Equilibrium and disequilibrium in the
economy and its firm
Changing demand and supply

Profit Maximization
One of the most important objectives of an
organization.
Profit = Total Revenue Total Cost
Big question: How can we maximize the
overall level of profit?
a) By charging maximum price? Or
b) By producing maximum quantity? Or
c) By producing optimum quantity?

Profit Maximization
If increase Q by one unit,
revenue rises by MR,
cost rises by MC.
If MR > MC, then increase Q to raise profit.
If MR < MC, then reduce Q to raise profit.
What Q maximizes the firms profit?

Profit Maximization
At any Q with
MR > MC,
increasing Q
raises profit.
At any Q with
MR < MC,
reducing Q
raises profit.

Profit =
Profit MR MC

TR

TC

$0

$5

$5

10

20

15

30

23

40

33

50

45

MR MC

$10

$4

$6

10

10

10

10

10

12

Firms maximize profit by producing the Quantity until

MR = MC

Exercise
Assume a cost function: TC = 1000 + 2Q + 0.01Q2 and a constant
marginal revenue $10 per unit for a firm.
a) Calculate the profit maximizing output (Q); and
b) Total profit if the selling price per unit (P) = MR.
Solution:
a) MC = dTC /dQ = 2+0.02Q
Profit maximizing output is at where
MR = MC
10 = 2+0.02Q
Therefore, Profit Maximizing Quantity (Q) = 400 units.
b) Profit = TR TC = [(PxQ) TC]
= [(10x400) (1000 + 2(400) + 0.01(4002)] = $600

Exercise
Assume the following functions for a firm
Demand :
P = 7,500 3.75Q
Total Cost:
TC = 1,012,500 + 1,500Q + 1.25Q2
Find the profit maximizing Quantity for this firm.
Q = 600 units.

At Q = 600, find:
a)Price per unit P = 5,250
b)Total Revenue TR = 3,150,000
c) Total Profit
= 787,500

Exercise
Assume the following functions for a firm
Demand :
P = 20 - Q
Total Revenue: TC = Q2 + 8Q + 2
Find the followings for this firm.
a)Profit maximizing Quantity Q = 3
b)Price per unit
P = 17
c) Total Revenue
TR = 51
d)Total Profit
= 16

Exercise
Assume the following functions for a firm
Demand :
Q = 90 2P
Total Revenue: TC = Q3 - 8Q2 + 57Q + 2
Find the followings for this firm.
a)Profit maximizing Quantity Q = 4
b)Price per unit
P = 43
=6
c) Total Profit

Sales Revenue or
Revenue Maximization
Q

TR

AR

MR

$4.50

$0

n.a.

4.00

$4.00

$4

3.50

3.50

Sales
Revenue
Maximization
Condition

3.00

3.00

MR = 0

2.50

10

2.50

2.00

10

2.00

1.50

1.50

Exercise
Assume the following functions for a firm
Demand :
P = 7,500 3.75Q
Total Cost:
TC = 1,012,500 + 1,500Q + 1.25Q2
Find the followings for this firm.
a)Revenue maximizing Quantity Q = 1000 units.
P = 3,750
b)Price per unit
c) Total Revenue
TR = 3,750,000
= - 12,500
d)Total Profit / Loss

Exercise
Assume the following functions for a firm
Demand :
P = 4,000 20Q
Total Cost:
TC = 2000 + 400Q
Find the followings for this firm under
(a) Profit maximization objective
(b) Revenue Maximization objective.

i) Maximizing Quantity
ii) Price per unit
iii) Total Profit / Loss

Profit
90
2200
1,60,000

Revenue
100
2000
1,58,000

Exercise
Assume that you have written a new Economics textbook. The
publisher has offered you the following contract options for
royalty payment.
a) 10% of Total Revenue; or
b) 15% of Total Profit
The publishers total revenue and total cost functions are as
follows:
Total revenue :
TR = 10,000Q 5Q2
Total Cost:
TC = 10,000 20Q + 5Q2
(a) If you are a profit maximizer, which contract should you
choose?
(b) If you are a revenue maximizer, which contract should you
choose?

Solution to previous exercise

a) Profit Maximization case:
Royalty from 1st contract (10% of TR): 375,499.5
Royalty from 2nd contract (15% of ): 375,001.5
Decision: Choose the 1st contract
a) Revenue Maximization case:
Royalty from 1st contract (10% of TR): 5,00,000
Royalty from 2nd contract (15% of ): 1500
Decision: Choose the 1st contract

Average Total Cost or Average Cost

Minimization
Related to two important costs: MC and ATC
Recall:
ATC = AFC + AVC or TC / Q
TC
MC =
Q

Marginal Cost
TC

0 $100
1

170

220

260

310

380

480

620

Marginal
Cost (MC)
$200
is
the change in total cost from
$175
producing one more unit:

MC

$70
50
40

$150

Costs

$125

$100

50

$75

70

$50

100

$25

140

MC =

TC
Q

$0
0

4
Q

Average Total Cost Curves

TC

0 $100
1
2

170
220

ATC

$200
$175

n.a.

$150

$170
110

$125
Costs

$100

260

86.67

310

77.50

380

76

$25

480

80

$0

620

88.57

$75

$50

4
Q

Important Economic Relation: ATC and MC

When MC < ATC,

ATC
MC

$200

ATC is falling.

$175

When MC > ATC,

$150

ATC is rising.
The MC curve crosses the
ATC curve at
the ATC curves minimum.

Costs

$125
$100
$75
$50

ATC is minimum where,

ATC = MC
AVC is minimum where,

AVC = MC

$25
$0
0

4
Q

Exercise
Given the cost function:
TC = 1000 + 10Q - 0.9Q2 + 0.04Q3
Find:
1) MC, TVC, AVC functions (equations)
2) Find Q when AVC is minimum.

Worked out Solution

TC = 1000 + 10Q - 0.9Q2 + 0.04Q3
1) MC = TC / Q = d(TC) / dQ
= 10-1.8Q+ 0.12Q2
2) TVC = TC TFC
= 1000 + 10Q - 0.9Q2 + 0.04Q3 1000
= 10Q - 0.9Q2 + 0.04Q3
3) AVC = TVC / Q =(10Q - 0.9Q2 + 0.04Q3 )/Q
= 10 - 0.9Q + 0.04Q2
4) Q at Minimum AVC is:
AVC
= MC
10 - 0.9Q + 0.04Q2
= 10-1.8Q+ 0.12Q2
Or, - 0.08Q2 + 0.9Q
=0
Or, Q(- 0.08Q+ 0.9)
=0
Or, Q =0 and - 0.08Q+ 0.9 = 0 i.e, Q = 11.25 (Minimum AVC)

Exercise
Assume the following functions for a firm
Demand :
P = 7,500 3.75Q
Total Cost:
TC = 1,012,500 + 1,500Q + 1.25Q2
Find the followings for this firm if your objective is
to minimize average cost.
a) Q
Q = 900
b) Price per unit P = 4,125
c) Total Revenue TR = 3,712,500
d) Total Profit = 337,500

Thank You