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| | == Review: Short and Long Run == | | == Review: Short and Long Run == |
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| − | On the CLEP exam, 20% or more of the questions mention the "short run" or the "long run," or both. Do we fully understand the differences, and what they signify? Let's review this so you can feel comfortable whether or or both of the concepts arises. | + | On the CLEP exam, at least 20% of the questions mention the "short run" or the "long run," or both. That is a big chunk of the exam. Do we fully understand the differences, and what they signify? Let's review this so you can feel comfortable when these terms pop up one exams. |
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| | + | The dictionary definition for "short run" and "long run" are fairly simple. The "short run" is a time period so brief that a firm is stuck with the resources it has. It cannot change its plant size or its workforce. Instead, it must use more expensive options to make changes in its output, since as paying for nightly overtime (when wages are 50% higher per hour), or buy airplane tickets at the last minute when they are more expensive. If you are traveling in a car and you notice you need gas soon, then you're stuck with the prices charged by the next one or two gas stations, which may not be the lowest price available. Your short run costs are higher than your long run costs. '''Short run costs are usually higher than long run costs''', because the short run decisions are not optimal. |
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| | + | In the long run, the opposite is true. The long run is a period long enough that a firm can optimize its costs as it changes its level of output. The firm can change the size of its production facility. Put another way, '''in the long run all costs are variable'''. |
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| | + | The above definitions are good to know, but it is important to learn how to apply them correctly. When an exam question asks about "long-run equilibrium," then immediately think about how all costs are minimized in the long run. THe price charged by a perfectly competitive firm in the long run or the short run will still be equal to marginal cost, because that is always true when there is perfect competition, but the relation between that price and the firm's costs depends on whether it is in the long run or the short run. In the long run, the firm's costs are minimized, and thus the price will be greater than or equal to the firm's average total cost. On an exam question, assume that costs are "economic costs" that include everything from the owner's salary to the investors' profits to the opportunity costs, and realize that the competition will drive the price to its lowest level possible also: price will equal average total cost as well as marginal cost. The answer is different for monopolistic competition (see the second on that below). |
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| | + | A question probing the difference between the short and long run might ask what the basic difference is. We learned about that in the long run all costs are variable. So what does that leave for the short run? '''In the short run some costs of a firm are fixed and unchangeable'''. The night before our bus trip to D.C., decisions about the bus must be made on a short-run basis. It is too late, for example to change the number of buses. The cost of the buses is fixed, not variable. |
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| | == Review: Monopolistic Competition == | | == Review: Monopolistic Competition == |