Marginal Analysis

A Key to Economic Analysis

Marginal Analysis
Marginal analysis is used to assist people in allocating their scarce resources to maximize the benefit of the output produced. Simply getting the most value for the resources used.
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Marginal Analysis
Marginal analysis: The analysis of the benefits and costs of the marginal unit of a good or input. (Marginal = the next unit)

Marginal Analysis
A technique widely used in business decisiondecision-making and ties together much of economic thought. In any situation, people want to maximize net benefits: Net Benefits = Total Benefits - Total Costs
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The Control Variable

To do marginal analysis, we can change a variable, such as the: quantity of a good you buy,  the quantity of output you produce, or  the quantity of an input you use.


This variable is called the control/Independent variable . 5

The control/Independent Variable

Marginal analysis focuses upon whether the control/Independent variable should be increased by one more unit or not.

Key Procedure for Using Marginal Analysis

1. Identify the control/Independent variable (cv). (cv). 2. Determine what the increase in total benefits would be if one more unit of the control/Independent variable were added. This is the marginal benefit of the
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Key Procedure for Using Marginal Analysis

3. Determine what the increase in total cost would be if one more unit of the control/Independent variable were added. This is the marginal cost of the added unit.
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Key Procedure for Using Marginal Analysis

4. If the unit's marginal benefit exceeds (or equals) its marginal cost, it should be added.

Key Procedure for Using Marginal Analysis

Remember to look only at the changes in total benefits and total costs. If a particular cost or benefit does not change, IGNORE IT !

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Why Does This Work?

Because: Marginal Benefit = Increase in Total Benefits per unit of control/Independent variable (TR (Q (TR / (Qcv = MR
where cv = control variable

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Why Does This Work?

Marginal Cost = Increase in Total Costs per unit of control/Independent variable (TC / (Qcv = MC (TC (Q

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Why Does This Work?

So: Change in Net Benefits = Marginal Benefit - Marginal Cost

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Why Does This Work?

When marginal benefits exceed marginal cost, net benefits go up. So the marginal unit of the control variable should be added.

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Example: Should a firm produce more ?

A firm's net benefit of being in business is PROFIT. The following equation calculates profit: PROFIT = TOTAL REVENUE - TOTAL COST

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Example: Should a firm produce more ?

Where: TR = (Poutput X Qoutput) (P
n

TC = 7 (Pinputi X Qinputi)
i=1

Assume the firm's control/Independent variable is the output it produces.

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Problem:
International Widget is producing fifty widgets at a total cost of $50,000 and is selling them for $1,200 each for a total revenue of $60,000. If it produces a fifty-first widget, its total fiftyrevenue will be $61,200 and its total cost will be $51,500.
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Problem:
Should the firm produce the fifty-first fiftywidget?

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Answer: NO
The fifty-first widget's marginal benefit fiftyis $1,200 ($61,200 - $60,000) / 1 This is the change in total revenue from producing one additional widget and is called marginal revenue.
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Answer:
The firm's marginal cost is $1,500 ($51,500 - $50,000) / 1 This is the change in total cost from producing one additional widget. This extra widget should NOT be produced because it does not add to profit:
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Answer:
Change in Net Revenue (Benefit) = Marginal Revenue - Marginal Cost - $300 = $1,200 - $1,500

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(Qcv

Qwidgets 50

TR 60,000

(TR TC 50,000 1,200

(TC

1 51 61,200

1,500 51,500

MR = (TR / (Qcv = $1,200 / 1 = $1,200 (TR (Q MC = (TC / (Qcv = $1,500 / 1 = $1,500 (TC (Q 22

A Question:
What is the minimum price consumers would have to pay to get a 51st Widget produced?
 Consumers

would have to pay at least $1,500 for the extra widget to get the producer to increase production.
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Summary
 Marginal

analysis forms the basis of economic reasoning. To aid in decision-making, marginal decisionanalysis looks at the effects of a small change in the control/Independent variable.

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Summary
 Each

small change produces some good (its marginal benefit) and some bad (its marginal cost). long as there is more "good" than "bad", the control/Independent variable should be increased (since net benefits will then be increased).
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 As

Practical Exercise:
Turn to the class exercise in your Notebooks. Please complete the class exercise.

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Equi Marginal Principle

The Equi Marginal Principle deals with the allocation of available resources among the alternative activities. An Input should be so allocated that the value added by the last unit is the same in all cases. In other words its decision making in allocating the available resources in such way that marginal value of 27 various in a given uses is same.

For Example
Consumer MU1 = MU2= ------- = Mun
P1 P2
=

Pn

MR1
MC1

MR2
MC2

= ------- =

MRn
MCn

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Continued
Multiple Operation/Work

Unit Multi Market Seller Multi Plan Monopolist Multi Factor Employer Multi Product Firm Multi Commodity Consumer

Equi Marginal Principle MR1 = MR2 MR3 MC1 = MC2 = MC3 MP1 = MP2 = MP3 MP1 = MP2 = MP3 MU1 = MU2 = MU3

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Equi Marginal Principle

Solve and Allocate Resources. Availability is Six Unit
Unit 1 2 3 4 5 6 Item A 8 7 6 5 4 3 Item B 7 6 5 4 3 2 Item C 6 5 4 3 2 1

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