CHAPTER 9 : EQUILIBRIUM OF A FIRM

9.1 Concept of a Firm

A firm is the smallest unit of production or sale. Microeconomic theory is an equilibrium analysis. It is concerned with the behavior of demand and supply forces. Marshall is reported to have said that demand and supply are like two blades of a pair of scissors. Demand is a result of the utility-maximizing behavior of a consumer in rational bounds. Similarly supply is an outcome of the profit-maximizing behavior of a firm, again in rational bounds.

Firms may have different organizational forms. A firm may be an individual enterprise, a partnership, a joint stock company, a corporate body, a cooperative enterprise or a public utility agency. Again a firm may be a producer, seller, trader, exporter or a financier. In any one of these capacities, firms show similar basic tendencies. In order to maximize its profits a firm has to maintain as large a difference between what it spends on resources or cost of production and what it earns by selling goods in the form of revenue or returns. The difference between the two is the firm’s profit. So the firm has to keep its cost of production as low as possible. On the other hand, it has to charge a high price and sell as much quantity of products as possible. In this respect, the firm’s actions are related to the behavior of consumers. Besides the limitation of cost of production, the capacity of a firm to charge a suitable price is restricted by the consumer’s willingness to pay.