Determining optimal output levels
It is the business of every firm that operates in the market to maximize its profits in the long run. Economists have come up with theories of firms production that assist the firms in decision making .When the firm is not making profits it will operate at a point where all its costs are equal to its revenue in the short run. At this point the company’s costs are fully covered but the company is not making any profits. The main aim of the company at this point is to survive until it makes adjustments in the long run. In determining the companies optimal output we consider the costs and revenue measures as the level of production is varied. The costs concepts are the average variable costs, the average total costs and the marginal costs. The concepts will provide useful information on the increases and decreases in costs of production. The revenue concepts are total revenue and the marginal revenue. The combination of the two concepts cost and revenue will be used to determine the optimal levels of production.
The total revenue is the total monetary value of the output produced by the company at a specified period of time. The mathematical formula for total revenue is given by the total output produced by the company in terms of units multiplied by the price of that unit in the market. The marginal revenue is the amount of revenue received by selling one extra unit of commodity output. The marginal revenue will differ in the market in relation to the type of market structure the company is operating in. Under a monopoly the marginal revenue is not equal to price because the firm has a freedom to change price. The firm is the price setter in the market. Under a competitive market the firm is a price taker and cannot adjust its prices. This way the marginal revenue is equal to the prices of the commodity.
The firm’s decision is to maximize the amount it gains from one unit of input into the production process. It should aim to increase the difference between revenue received and the costs incurred. The difference between costs and revenue is referred to as economic profits. Note the difference with the opportunity costs profits where we compare both the economics profits with opportunity costs. The computation formula for economic profits is the total revenue minus the total costs.
To achieve maximum profits the firm should have proper policies to adjust the costs of production of each unit of output according to its profits objectives. The sales revenue should also be considered when making costs decision. This is so because it is not viable top produce when there is nit market for your goods or when the revenue received from sales is less than costs of production. The firm will aim to continue to increase its total output as long as the cost incurred from the production of one unit is less than the revenue realized from the sale of that extra unit. We can therefore conclude and say that for a company to maximize profit the marginal revenue should be greater than marginal costs