Econ 561 Profit Analysis Question 2 LO3

2-8 (Key Question) With current technology, suppose a firm is producing 400 loaves of banana bread daily. Also, assume that the least-cost combination of resources in producing those loaves is 5 units of labor, 7 units of land, 2 units of capital, and 1 unit of entrepreneurial ability, selling at prices of $40, $60, $60, and $20, respectively. If the firm can sell these 400 units at $2 per unit, will it continue to produce banana bread? If this firm’s situation is typical for the other makers of banana bread, will resources flow to or away from this bakery good? Total Profits = Total Cost – Total Revenue
Total Cost = Presource * Qresource and Total Revenue = Price * Qsold Total Cost = ($40 * 5 units of labor) + ($60 * 7 units of land) + ($60 * 2 units of capital) + ($20 * 1 unit of entrepreneurial ability) = $200 + $420 + $120 + $20 = $760. Total Revenue = $2 * 400 loaves of banana bread = $800. Total Profits = $800 - $760 = $40. The firm will continue to produce as it is earning economic profits. If this firm is typical of the banana bread industry, more resources will flow toward banana bread as other potential firms are attracted to the economic profits in the industry.
2-9 (Key Question) Assume that a business firm finds that its profit it greatest when it produces $40 worth of product A. Suppose also that each of the three techniques shown in the table on page 43 will produce the desired output.

Resource Units Required

Resource
Price per unit of resource
Technique
1
Technique
2
Technique
3

Labor
Land
Capital
Entrepreneurial
ability
$3
4 2 2

5
2
2
4
2
4
4
2
3
2
5
4
a. With the resource prices shown, which technique will the firm choose? Why? Will production entail profit or losses? What will be the amount of profit or loss? Will the industry expand or contract? When will that expansion end?
b. Assume now that a new technique, technique 4, is developed. It combines 2 units of labor, 2 of land, 6 of capital, and 3 of entrepreneurial ability. In view of the resource prices in the table, will the firm adopt the new technique? Explain your answer.
c. Suppose that an increase in labor supply causes the price of labor to fall to $1.50 per unit, all other resource prices being unchanged. Which technique will the producer now choose? Explain.
d. “The market system causes the economy to conserve most in the use of those resources that are particularly scarce in supply. Resources that are scarcest relative to the demand for them have the highest prices. As a result, producers use these resources as sparingly as is possible.” Evaluate this statement. Does your answer to part c, above, bear out this contention? Explain.
(a) The firm will choose technique 2 because it produces the output at the least cost ($34 compared to $35 for techniques 1 and 3). Economic profit will be $6 (= $40 - $34), causing the industry to expand. Expansion in this industry will continue until prices decline to where total revenue equals total cost of $34 and no additional firms will want to enter the industry.
(b) The firm will adopt technique 4 because its cost is now lowest at $32.
(c) The firm will choose technique 1 because its cost is now lowest at $27.50.
(d) The statement is logical. Increasing scarcity of a resource causes its price to rise. Firms ignoring higher resource prices will become high-cost producers. Firms switching to the less expensive inputs become lower-cost producers and earn higher profits than high-cost producers. The market system, therefore, forces producers to conserve on the use of highly scarce resources. Question 9c confirms this: Technique 1 was adopted because labor had become less expensive.
2‑10 (Key Question) Some large hardware stores such as Home Depot boast of carrying as many as 20,000 different products in each store. What motivated the producers of those individuals to make them and offer them for sale? How did producers decide on the best combinations of resources to use? Who made these resources available, and why? Who decides whether these particular hardware products should continue to be produced and offered for sale? The quest for profit led firms to produce these goods. Producers looked for and found the least-cost combination of resources in producing their output. Resource suppliers, seeking income, made these resources available. Consumers, through their dollar votes, ultimately decide on what will continue to be produced.