Summary of Economics of Strategy Book Essay

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Pages: 7

Chapter 1, Basic Microeconomic principles

TC function: Represent the relationship between total cost and output, assuming that the firm produces in the most efficient manner possible given its current technological capabilities.

Semifixed: fixed over certain ranges of output but variable over other ranges

AC(Q): average cost function; describes how the firms average cost function or per unit of output costs vary with the amount of output it produces.  When average costs decreases as output increases, there are economies of scale

Margincal cost: refers to the rate of change of total cost with respect to output the incremental cost of producing exactly one more unit of output. Margincal cost often depeds on the total volume
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Smith’s theorem: states that individuals or firms will not make specialized investment unless the market is big enough to support them. He also states that larger markets will support a more specialized array of activities than smaller markets can
3) Inventories Traditional inventories: parts at an auto repair shop Non traditional inventories: customer service agents at a call center Costs of inventory: interest on the expenses born in producing the inventory and the risk that it will depreciate in value while waiting to be sold The need to carry inventories creates economies of scale because firms doing high volume of business can usually maintain a lower ratio of inventory to sales while achieving a similar level of stock-outs. This reduces their average costs of goods sold. Cube-square volume: as capacity increases, the average cost of producing at capacity decrease because the ratio of surface area to volume decreases

Special Sources of Economies of Scale and Scope
1) Economies of scale and scope in purchasing:
a. The price per unit of many items falls as the amount we purchase increases
b. A supplier might care how much it sells to a purchaser because of the following reasons:
i. It may be less costly to sell to a single buyer ii. A bulk purchaser has more