A shop owner gives up a $90,000 salary to run her own store. The store earns $300,000 in revenue and pays $60,000 in rent and $120,000 in wages. What is the store's economic profit?
$30,000
✓
$120,000
$210,000
$90,000
Correct Answer
$30,000
Economic profit is total revenue minus explicit and implicit costs: $300,000 - $180,000 - $90,000 = $30,000. $120,000 is the accounting profit, which leaves out the forgone salary. $210,000 subtracts only the implicit cost and ignores rent and wages. $90,000 is the implicit cost itself, not a profit figure.
Category: Accounting and Economic Profit
Question 2
Which of these is an implicit cost for a small business?
Rent paid for the office building
Interest the owner forgoes on savings put into the firm
✓
Wages paid to hired workers
Payments to a supplier for raw materials
Correct Answer
Interest the owner forgoes on savings put into the firm
An implicit cost is the opportunity cost of resources the firm already owns, and no cash changes hands. Interest the owner forgoes on savings put into the firm is income given up, so it is implicit. Rent paid for the office building is an out-of-pocket payment, so it is explicit. Wages paid to hired workers are explicit. Payments to a supplier for raw materials are also explicit.
Category: Explicit and Implicit Costs
Question 3
With a fixed amount of capital, a firm produces 10 units with 2 workers, 15 units with 3 workers, and 18 units with 4 workers. What is the marginal product of the fourth worker?
4.5 units
5 units
3 units
✓
18 units
Correct Answer
3 units
Marginal product is the change in total product from one more worker: 18 - 15 = 3 units. 4.5 units is output per worker (18 / 4), not the extra output of the last worker. 5 units is the marginal product of the third worker. 18 units is total product with four workers.
Category: Production in the Short Run
Question 4
Why does the marginal product of labor eventually decline as a firm hires more workers in the short run?
Workers hired later are less skilled than earlier ones
Wages rise each time the firm hires another worker
The firm's customers buy less as output grows
At least one input, such as capital, is held fixed
✓
Correct Answer
At least one input, such as capital, is held fixed
Diminishing marginal productivity occurs because each added worker has a smaller share of the fixed capital to work with. Workers hired later are less skilled than earlier ones is not the reason; returns diminish even when every worker is equally skilled. Wages rise each time the firm hires another worker describes input prices, not output per worker. The firm's customers buy less as output grows is about demand, not production.
Category: Diminishing Marginal Product
Question 5
Economists say a firm is operating in the short run when which condition holds?
At least one input cannot be changed
✓
Every input can be adjusted freely
The firm has existed for under one year
The firm is losing money on each unit
Correct Answer
At least one input cannot be changed
The short run is defined by the presence of at least one fixed input, such as a leased building. Every input can be adjusted freely describes the long run. The firm has existed for under one year is wrong because the boundary is not a calendar length. The firm is losing money on each unit concerns profit, not the time horizon.
Category: Production in the Short Run
Question 6
A firm has fixed cost of $100. At an output of 10 units its variable cost is $300. What is its average total cost at 10 units?
$30
$40
✓
$10
$400
Correct Answer
$40
Average total cost is total cost divided by quantity: ($100 + $300) / 10 = $40. $30 is average variable cost ($300 / 10). $10 is average fixed cost ($100 / 10). $400 is total cost, not cost per unit.
Category: Short-Run Cost Calculations
Question 7
A firm's total cost is $400 at 20 units and $550 at 25 units. What is the marginal cost per unit of producing those 5 extra units?
$150
$22
$30
✓
$20
Correct Answer
$30
Marginal cost is the change in total cost divided by the change in quantity: ($550 - $400) / 5 = $30. $150 is the change in total cost before dividing by the 5 units. $22 is average total cost at 25 units ($550 / 25). $20 is average total cost at 20 units ($400 / 20).
Category: Short-Run Cost Calculations
Question 8
If a firm's marginal cost is below its average total cost, what is happening to average total cost as output rises?
Rising
Holding steady
Rising then falling
Falling
✓
Correct Answer
Falling
When the cost of the next unit is below the current average, adding that unit pulls the average down, just as a quiz score below your average lowers it. Rising happens when marginal cost is above average total cost. Holding steady happens only at the single output where marginal cost equals average total cost, at the bottom of the U. Rising then falling describes an upside-down U, the opposite of the usual average total cost curve.
Category: Marginal and Average Cost
Question 9
Why does average total cost usually decline as output rises from very low levels?
Fixed cost is spread over more units
✓
Marginal product of labor is shrinking
Total fixed cost becomes smaller
Variable cost per unit climbs sharply
Correct Answer
Fixed cost is spread over more units
At low output, fixed cost dominates average total cost, and producing more spreads that same fixed cost across more units. Marginal product of labor is shrinking would raise costs per unit, not lower them. Total fixed cost becomes smaller is wrong because fixed cost stays the same at every output. Variable cost per unit climbs sharply would push average total cost up.
Category: Marginal and Average Cost
Question 10
A company has already spent $50,000, which it cannot get back, researching a new product. When deciding whether to keep developing it, how should the company treat the $50,000?
Add it to the cost of continuing
Ignore it because it is gone either way
✓
Spread it over the remaining units
Subtract it from expected future revenue
Correct Answer
Ignore it because it is gone either way
Money that is already spent and cannot be recovered is a sunk cost, and it does not change no matter what the firm decides next, so it should not affect the decision. Add it to the cost of continuing wrongly counts a cost that continuing does not create. Spread it over the remaining units still lets it sway the choice. Subtract it from expected future revenue double counts a past payment against future earnings.
Category: Sunk Costs
Question 11
When a firm expands all of its inputs and its long-run average cost falls, the firm is experiencing what?
Diseconomies of scale
Constant returns to scale
Economies of scale
✓
Diminishing marginal product
Correct Answer
Economies of scale
Economies of scale exist when cost per unit falls as the quantity of output rises with all inputs variable. Diseconomies of scale mean average cost rises as the firm grows. Constant returns to scale mean average cost stays about the same as the firm grows. Diminishing marginal product is a short-run idea about adding one input to fixed inputs.
Category: Costs in the Long Run
Question 12
What is a common explanation for diseconomies of scale?
Fixed capital makes each added worker less productive
Larger plants can use more specialized machinery
Input prices fall as the firm buys in bulk
Very large organizations become hard to manage and coordinate
✓
Correct Answer
Very large organizations become hard to manage and coordinate
When an operation grows very large, communication and coordination break down, which pushes long-run average cost up. Fixed capital makes each added worker less productive describes diminishing returns in the short run. Larger plants can use more specialized machinery is a source of economies of scale. Input prices fall as the firm buys in bulk would lower costs, not raise them.
Category: Costs in the Long Run
Question 13
How is the long-run average cost curve related to a firm's short-run average cost curves?
It traces the lowest short-run average cost available at each output
✓
It traces the highest short-run average cost at each output
It is the marginal cost curve of the largest possible plant
It is the average variable cost curve of the smallest plant
Correct Answer
It traces the lowest short-run average cost available at each output
In the long run a firm can choose any plant size, so for each output it picks the short-run average cost curve that gives the lowest cost, and the long-run curve follows the lower edge of all of them. It traces the highest short-run average cost at each output would describe the worst choice, not the best. It is the marginal cost curve of the largest possible plant confuses marginal and average cost. It is the average variable cost curve of the smallest plant ignores the other plant sizes and fixed costs.
Category: Costs in the Long Run
Question 14
In an industry, long-run average cost reaches a single minimum at 10,000 units per year, and the market buys 2,000,000 units per year. About how many firms does the model predict the market can support?
20
200
✓
2,000
20,000
Correct Answer
200
If each firm operates at the low point of long-run average cost, the number of firms is market quantity divided by efficient output per firm: 2,000,000 / 10,000 = 200. 20 drops a zero from the correct result. 2,000 adds a zero. 20,000 confuses the quantity per firm with the number of firms.
Category: Market Size and Structure
Question 15
For a bakery in the short run, which cost is fixed?
Flour used to bake each batch of bread
Pay for hourly workers scheduled as needed
Monthly rent on a building under a one-year lease
✓
Packaging for each loaf that is sold
Correct Answer
Monthly rent on a building under a one-year lease
A fixed cost stays the same no matter how much the firm produces, and rent under a lease must be paid even if no bread is baked. Flour used to bake each batch of bread rises with output, so it is variable. Pay for hourly workers scheduled as needed changes with production, so it is variable. Packaging for each loaf that is sold also rises with output.
Category: Fixed and Variable Costs
Question 16
At 50 units of output, a firm's average total cost is $15 and its average variable cost is $11. What is the firm's total fixed cost?
$4
$550
$750
$200
✓
Correct Answer
$200
Average fixed cost is average total cost minus average variable cost, $15 - $11 = $4, and fixed cost is that times quantity: $4 x 50 = $200. $4 is average fixed cost, the cost per unit rather than the total. $550 is total variable cost ($11 x 50). $750 is total cost ($15 x 50).
Category: Short-Run Cost Calculations
Question 17
Why does the total cost curve eventually become steeper as a firm produces more in the short run?
Diminishing marginal productivity raises the cost of each extra unit
✓
Fixed cost grows with every extra unit produced
Average fixed cost increases as output expands
Economies of scale lower the cost of each extra unit
Correct Answer
Diminishing marginal productivity raises the cost of each extra unit
As more variable inputs are added to fixed inputs, each extra unit of output takes more input to make, so marginal cost and the slope of total cost rise. Fixed cost grows with every extra unit produced is wrong because fixed cost does not change with output. Average fixed cost increases as output expands is wrong because it falls. Economies of scale lower the cost of each extra unit describes the long run and would flatten, not steepen, the curve.
Category: Fixed and Variable Costs
Question 18
A firm sells 400 units of its product at $15 each. What is its total revenue?
$415
$6,000
✓
$385
$26.67
Correct Answer
$6,000
Total revenue is price times quantity: $15 x 400 = $6,000. $415 adds price and quantity instead of multiplying them. $385 subtracts price from quantity. $26.67 divides quantity by price, rounded to the nearest cent.
Category: Accounting and Economic Profit
Question 19
When the long-run average cost curve has a long flat bottom over a wide range of output, what does the model predict about firms in the industry?
Only a single firm can survive
Every firm must be exactly the same size
Firms of many different sizes can compete
✓
Firms gain lower costs by growing larger
Correct Answer
Firms of many different sizes can compete
A flat stretch of long-run average cost means firms anywhere in that range have about the same cost per unit, so small and large firms can coexist. Only a single firm can survive fits a market too small for even one firm at its lowest-cost size. Every firm must be exactly the same size fits a curve with one sharp minimum point. Firms gain lower costs by growing larger is false along a flat section, where average cost barely changes with size.
Category: Market Size and Structure
Question 20
A new technology lets small plants produce at the same low average cost that only large plants could reach before. What does the model predict will happen to the number of firms the market can support?
Decrease
Stay the same
Fall to one firm
Increase
✓
Correct Answer
Increase
If the lowest point of long-run average cost now occurs at a smaller output, the same market demand can be divided among more firms, each producing efficiently. Decrease would follow from a technology that favors larger plants, such as the assembly line. Stay the same ignores the change in the efficient plant size. Fall to one firm would happen only if the efficient size grew larger than the whole market.
Category: Market Size and Structure