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Principles of Market Economy for Beginner Social Entrepreneurs Rasa Pušinaitė-Gelgotė, Vilnius University
Profit maximization is the goal of any private company in a market economy. Social enterprises also operate in the market economy as private companies. But the main difference is that social enterprises have different goals, i.e., social and economic. The goals must be harmonized: economic profit is necessary for social profit or value maximization. Because social enterprises compete in the same markets for resources and consumers, they must follow the same rules as other firms.
The amount of the goods supply in the market depends on the main indicators of the firm that determine the decisions of the firm: profit, revenue, and cost. Focusing on the supply side of the market, the theory of the firm assumes, the goal of the entrepreneur is to maximize profit (Hughes, 2006). Profit is the difference between total revenue and total cost. Total revenue is calculated by multiplying quantity by market price. Total cost (or cost function) summarizes information about the production process and is divided into two types: fixed costs and variable costs. Fixed costs are costs that do not vary with output. Fixed costs include the costs of fixed inputs used in production. Variable costs are costs that change when output is changed. Variable costs include the costs of inputs that vary with output. Since all costs fall into one or the other category, the sum of fixed and variable costs is the firm’s short-run cost function. Profit maximization and cost minimization are the main goals of all competitive firms. In addition to cost minimization, the profit-maximizing firm must also determine the optimal quantity to produce (Hughes, 2006). The most important questions to answer are as follows:
How markets work is explained by the market equilibrium concept. A market is in equilibrium when demand and supply curves intersect.
How much does it cost to make a single item of goods? (the question relates to average total cost; a company should tell the costs of the typical unit)
Demand is the consumer’s desire to purchase goods and services and willingness to pay a price for a specific good or service. Demand can help to explain consumer’s behavior in the market: how and why a consumer decides what to buy. Demand is determined by price, income and wealth of consumers, prices of related goods, advertising and many other factors such as taste and preferences of an individual consumer (Praveen et al., 2011). The theory of consumer behavior rests on the assumption that a consumer chooses among different “commodities” with the goal of maximizing utility (Hughes, 2006).
How much does it cost to increase production of one item? (the question relates to the marginal cost; it shows the amount that the total cost rises when the firm increases production by 1 unit of output)
The behavior of sellers (firms) is explained by supply. Supply is a firm’s position in the market: willingness to produce and possibility to sell goods and services at market price. The market equilibrium concept in economics explains the price of the good or services. At the market equilibrium price, the quantity of the good that buyers are willing and able to buy exactly balances the quantity that sellers are willing and able to sell (Mankiw and Taylor, 2006). The actions of buyers and/or sellers make changes in demand and supply, which influences the price. Prices of goods and services determine allocation of resources in the market.
Company profit maximization decisions lead to a supply curve. Because the firm’s marginal cost curve determines the quantity of the good the firm is willing to supply at any price, it constitutes the firm’s supply curve. These economic indicators help entrepreneurs to make decisions in the market about pricing, output, and use of scarce resources.
References 1. Hughes, P. (2006). The Economics of Nonprofit Organizations. Available at: https://onlinelibrary.wiley.com/doi/pdf/10.1002/nml.1 19 2. Mankiw, N. G., Taylor, M. P. (2006). Microeconomics. London: Thomson. 3. Praveen, M.V., Vineesh, A.K., Venugopalan, K. (2011). Managerial Economics. Study material. Calicut University.
