My breakfast friends found a way to wake me up today. Doug Calkins mentioned that the big oil companies raised their prices in order to reap BIG profits at the expense of the little guys like us. Nothing could be farther from the truth. Not only do oil companies not have the ability to raise prices, but it's stupid for them to do so.
All companies maximize their profit by operating at the point where marginal revenue equals marginal cost. Anyone with a little knowledge of geometry will immediately see this. In the graph to the right, total revenue is equal to the price times the quantity. In this case $7 times 6 1/2 or $45.50 (gray plus yellow). The firm must pay out some in costs which is shown in yellow and equals $26 which is $4 times 6.5. Thus, profit is equal to $19.50 or the gray rectangle.
All companies maximize their profit by operating at the point where marginal revenue equals marginal cost. Anyone with a little knowledge of geometry will immediately see this. In the graph to the right, total revenue is equal to the price times the quantity. In this case $7 times 6 1/2 or $45.50 (gray plus yellow). The firm must pay out some in costs which is shown in yellow and equals $26 which is $4 times 6.5. Thus, profit is equal to $19.50 or the gray rectangle.
Suppose the firm want to gouge the little guy by charging $10 as seen below. How much profit does the firm make now? Total revenue will equal $10 or $10 times 1 and profit will equal $6. The reader will see that the area is smaller and it is not in the best interest of the firm to raise the price above the $7 mark. How much would the firm sell if the price was $20.00? With the information given by the graph above, the firm would sell nothing. Raising prices isn't the way to make the most money so there must be other reasons why the price has increased besides price gouging.
No comments:
Post a Comment