Expansion Path:

An expansion path is a curve that shows the optimal combination of inputs for a given level of
output as the scale of production changes. It is derived by joining the tangency points of the
isoquants and the isocost lines. An expansion path can be linear, concave, or convex, depending
on the nature of the production function and the substitutability of the inputs.

Ridge line:
A ridge line is a line that shows the boundary of the economic region of production on an isoquant
map. It is the locus of points on the isoquants where the marginal product of one of the inputs is
zero. A ridge line is convex to the origin and slopes downward. There are two ridge lines on an
isoquant map: the upper ridge line and the lower ridge line. The upper ridge line implies zero
marginal product of capital and the lower ridge line implies zero marginal product of labor. The
area between the ridge lines is the economic region of production, where both inputs have positive
marginal products and the production is efficient. The area outside the ridge lines is the
uneconomic region of production, where one or both inputs have negative or zero marginal
products and the production is inefficient

MRTS (Marginal Rate of Technical Substitution):

MRTS stands for Marginal Rate of Technical Substitution. It is the rate at which one input can be
substituted for another input while keeping the output constant. It is equal to the negative slope of
the isoquant curve at a given point. Mathematically, MRTS = - (MPx / MPy), where MPx and
MPy are the marginal products of inputs x and y, respectively. MRTS reflects the trade-off between
the inputs and the diminishing marginal productivity of each input2

Response bias / Response accuracy:

Response bias is a systematic error that occurs when survey respondents do not answer questions
truthfully or accurately. Response bias can be caused by various factors, such as social desirability,
demand characteristics, acquiescence, or lack of interest. Response bias can affect the validity and

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reliability of survey results and lead to misleading conclusions. Response accuracy is the degree
to which survey responses reflect the true opinions or behaviors of the respondents. Response
accuracy can be improved by using clear and unbiased questions, ensuring anonymity and
confidentiality, and providing incentives or reminders3

Cobb-douglas production function:

The Cobb-Douglas production function is a mathematical model that describes the relationship
between output and inputs in a production process. It assumes that output is a function of capital
and labor, and that there are constant returns to scale. The Cobb-Douglas production function has
the form: Q = A K^a L^b, where Q is output, A is a constant, K is capital, L is labor, and a and b
are the output elasticities of capital and labor, respectively. The Cobb-Douglas production function
is widely used in economics to analyze the sources of economic growth, the distribution of income,
and the elasticity of substitution.

Accounting vs Economic profit:

Accounting profit is the net income or revenue minus operating expenses or explicit costs. It is the
profit that is reported on financial statements and to the IRS. Accounting profit is straightforward
and precise: revenue minus explicit costs. For example, if a company has revenue of $100,000 and
explicit costs of $80,000, its accounting profit is $20,000.

Economic profit is the money earned or return after subtracting both explicit and implicit costs,
which include opportunity costs from all inputs or alternatives. Economic profit is used for internal
analysis and is not required for transparent disclosure. Economic profit is theoretical and
subjective: revenue minus explicit and implicit costs. For example, if a company has revenue of
$100,000, explicit costs of $80,000, and implicit costs of $30,000, its economic profit is -$10,000.

The difference between accounting profit and economic profit is that accounting profit only
considers the actual costs of the business, while economic profit also considers the forgone benefits

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of the next best alternative. Accounting profit can be positive or negative, while economic profit
can be positive, negative, or zero. Accounting profit shows the profitability of a business in terms
of accounting standards, while economic profit shows the profitability of a business in terms of
economic efficiency.

Iso-quant/cost curve:
An isoquant curve is a curve that shows all the combinations of two inputs, such as labor and
capital, that can produce the same level of output. For example, if you want to produce 100 units
of a product, you can use different combinations of labor and capital, such as 10 workers and 20
machines, or 15 workers and 15 machines, or 20 workers and 10 machines. All these combinations
will lie on the same isoquant curve. The slope of the isoquant curve is called the marginal rate of
technical substitution (MRTS), which measures how much of one input you can replace with
another input without changing the output1

An isocost curve is a curve that shows all the combinations of two inputs, such as labor and capital,
that have the same total cost. For example, if you have a budget of $1000 to spend on labor and
capital, and the price of labor is $10 per hour and the price of capital is $50 per hour, you can use
different combinations of labor and capital, such as 100 hours of labor and 0 hours of capital, or
50 hours of labor and 10 hours of capital, or 0 hours of labor and 20 hours of capital. All these
combinations will lie on the same isocost curve. The slope of the isocost curve is equal to the ratio
of the prices of the two inputs2

The difference between isoquant and isocost curves is that isoquant curves show the technical
relationship between inputs and output, while isocost curves show the budgetary constraint faced
by the producer. Isoquant curves are downward sloping and convex to the origin, while isocost
curves are straight lines with a negative slope. Isoquant curves can have different shapes depending
on the degree of substitutability of the inputs, while isocost curves are always linear3

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By combining isoquant and isocost curves, you can find the optimal combination of inputs that
will minimize the cost and maximize the output. The optimal combination is where the isoquant
curve is tangent to the isocost curve, indicating the lowest cost for a given output. This point is
also known as the producer’s equilibrium.

Multiple economies of scale:

Economies of scale are the cost advantages that a firm or an industry can achieve by increasing its
scale of production. Economies of scale result in lower average costs per unit of output as the
output increases. There are multiple types and sources of economies of scale, such as:

Technical economies of scale: These arise from the use of more efficient and specialized
machines, technologies, or processes that increase the productivity and efficiency of the
production.

Marketing economies of scale: These arise from the lower per-unit costs of advertising,
promotion, and distribution as the output increases.

Financial economies of scale: These arise from the lower per-unit costs of borrowing, issuing
shares, or raising funds as the output increases.

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Purchasing economies of scale: These arise from the lower per-unit costs of buying raw materials,
inputs, or supplies in bulk or at discounted prices as the output increases.

Managerial economies of scale: These arise from the lower per-unit costs of hiring, training, and
supervising specialized and skilled managers and workers as the output increases.

Network economies of scale: These arise from the positive externalities or spillover effects that
increase the value or utility of a product or service as the number of users or customers increases.

Learning economies of scale: These arise from the accumulation of knowledge, experience, and
innovation that improve the quality or efficiency of the production as the output increases7

Price taking /setting firm:

A price-taking firm is a firm that has no control over the market price of the product or service it
sells. It must accept the prevailing market price as given and adjust its output accordingly. A price-
taking firm faces a perfectly elastic demand curve, which is horizontal at the market price. A price-
taking firm is usually a small firm in a perfectly competitive market, where there are many buyers
and sellers, homogeneous products, free entry and exit, and perfect information. A price-setting
firm is a firm that has some control over the market price of the product or service it sells. It can
influence the market price by changing its output or by differentiating its product or service. A
price-setting firm faces a downward-sloping demand curve, which is less than perfectly elastic. A
price-setting firm is usually a large firm in an imperfectly competitive market, such as monopoly,
oligopoly, or monopolistic competition, where there are few buyers and sellers, heterogeneous
products, barriers to entry and exit, and imperfect information8

Point/Arc elasticity:

Point elasticity is the elasticity of one variable with respect to another at a specific point on a curve.
It is the ratio of the infinitesimal percentage change of one variable to the infinitesimal percentage
change of another variable. It is used when the changes in the variables are very small. Point
elasticity is calculated by using the derivative of the function that defines the relationship between
the variables. Arc elasticity is the elasticity of one variable with respect to another between two

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given points on a curve. It is the ratio of the average percentage change of one variable to the
average percentage change of another variable. It is used when the changes in the variables are
finite or discrete. Arc elasticity is calculated by using the midpoint formula or the average of the
two points10

Substitute and complement:

A substitute is a good or service that can be used in place of another good or service to satisfy the
same need or want. A substitute has a positive cross-price elasticity of demand, which means that
the demand for one good increases when the price of another good increases. For example, tea and
coffee are substitutes, because if the price of coffee increases, the demand for tea increases. A
complement is a good or service that is used together with another good or service to enhance the
satisfaction or utility of the consumer. A complement has a negative cross-price elasticity of
demand, which means that the demand for one good decreases when the price of another good
increases. For example, bread and butter are complements, because if the price of butter increases,
the demand for bread decreases.

Learning curve and learning rate

A learning curve and a learning rate are related concepts that describe how a person or a process
improves with experience and practice. A learning curve is a graphical representation of the
relationship between the amount of learning or performance and the amount of experience or
practice. A learning rate is a numerical measure of how fast or slow the learning or improvement
occurs.

A learning curve can have different shapes depending on the difficulty and complexity of the task
or skill. A steep learning curve means that the learning or improvement is rapid and significant,
while a shallow learning curve means that the learning or improvement is slow and gradual. A
learning curve can also have different phases, such as an initial phase of rapid learning followed
by a plateau or a decline.

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A learning rate is usually expressed as a percentage that indicates how much the learning or
performance improves every time the experience or practice doubles. For example, a learning rate
of 80% means that the learning or performance improves by 20% every time the experience or
practice doubles. A learning rate of 100% means that there is no learning or improvement at all. A
learning rate can vary depending on the type and nature of the task or skill, as well as the individual
or group characteristics.

Learning curves and learning rates are useful tools for analyzing and predicting the behavior and
performance of individuals, groups, organizations, or industries. They can help to estimate the
time, cost, and resources required to achieve a certain level of learning or performance, as well as
to identify the factors that influence the learning or improvement process. Learning curves and
learning rates can also help to design and implement effective learning and training strategies, as
well as to evaluate and compare the outcomes and impacts of different learning and training
methods.

Return to factor and return to scale

Return to factor and return to scale are two important concepts in economics that explain how the
output of a production process changes when the inputs are changed. Return to factor refers to the
change in output when only one input is increased while holding the other inputs constant. Return
to scale refers to the change in output when all the inputs are increased simultaneously in the same
proportion. Return to factor is a short-run phenomenon, while return to scale is a long-run
phenomenon. Return to factor takes account of the change in factor proportions, while return to
scale takes factor proportions to be unchanged. Return to factor is based on the law of variable
proportions, while return to scale is based on the law of returns to scale.

Both return to factor and return to scale have three stages: increasing, decreasing, and constant.
Increasing return to factor means that the marginal product of the variable input increases as more

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of it is used. Increasing return to scale means that the output increases more than proportionately
as the inputs are increased. Decreasing return to factor means that the marginal product of the
variable input decreases as more of it is used. Decreasing return to scale means that the output
increases less than proportionately as the inputs are increased. Constant return to factor means that
the marginal product of the variable input remains constant as more of it is used. Constant return
to scale means that the output increases in the same proportion as the inputs are increased.

Multiple economies and Diseconomies of Scale

Multiple economies of scale are the cost advantages that a firm or an industry can achieve by
increasing its scale of production. Economies of scale result in lower average costs per unit of
output as the output increases. There are multiple types and sources of economies of scale, such as
technical, marketing, financial, purchasing, managerial, network, and learning economies of scale.

Income effect and substitution effect

Income effect and substitution effect are two concepts that explain how consumers' consumption
of goods and services changes due to income or price changes. Income effect is the change in
consumption based on the change in purchasing power or real income. Substitution effect is the
change in consumption based on the relative prices of goods and services or the availability of
cheaper alternatives. Both effects are components of price effect, which is the change in quantity
demanded due to price change.

Budget line
Budget line is a graphical representation of all possible combinations of two commodities that a
consumer can afford at a given market price and income. It shows the slope of the line as the ratio
of the cost of each product. The budget line is also known as the budget constraint, as it limits the
consumer's choice to the combinations that lie on or below the line.

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Hidden Action
Hidden action is a situation where the principal cannot observe the actions of the agent, and
therefore cannot verify whether the agent is acting in the best interest of the principal or not.
Hidden action is a type of moral hazard, which is a problem of asymmetric information that occurs
after a contract is signed. Hidden action can lead to inefficiencies and conflicts of interest, as the
agent may have an incentive to shirk or take excessive risks.

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