Define the following terms and explain their importance to the study of economics
a. principle of marginal productivity
b. marginal physical product
c. marginal revenue product
d. derived demand
e. economic rent
a. The marginal productivity principle states that when factor markets are competitive, it always pays a profit-maximizing firm to hire the quantity of any input that makes the marginal revenue product equal to the price of the input. It is a very useful principle in explaining the demand for any input.
b. Marginal physical product of an input is the increase in output that results from a one-unit increase in the use of the input, holding all other inputs constant. It is important in determining the demand for the input.
c. Marginal revenue product of an input is the monetary value of the additional sales that a firm obtains by selling the marginal physical product of the input. In a perfectly competitive market, it is computed as MRP = MPP x Price of finished good. The portion of MRP which is downward sloping is demand for the input.
d. The demand for any input is called a derived demand because it results from the underlying demand for the final product. The demand for the input is the downward-sloping portion of the MRP curve, which is the product of MPP and price of the final product (any change in final product price in turn shifts the input's demand curve).
e. Economic rent is the portion of the earnings of a factor of production that exceeds the minimum amount necessary to induce any of the factor to be supplied. It is payment above the opportunity cost of the factor. Some portion of income is often economic rent.
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