Profit Maximization
Profit maximization is the primary goal of most businesses in economics, where firms seek to achieve the highest possible level of profit by adjusting their production output and pricing strategies. Profit is the difference between total revenue (the income generated from selling goods or services) and total cost (the expenses incurred in producing those goods or services). A firm maximizes its profit when the additional revenue generated from selling one more unit (marginal revenue) equals the additional cost incurred to produce that unit (marginal cost).
Here is an example to illustrate profit maximization:
Suppose a company produces and sells a particular type of smartphone. The company’s total revenue and total cost for different levels of production are as follows:
- Producing 100 smartphones: Total revenue = $20,000 Total cost = $12,000 Profit = $20,000 – $12,000 = $8,000
- Producing 101 smartphones: Total revenue = $20,200 Total cost = $12,120 Profit = $20,200 – $12,120 = $8,080
- Producing 102 smartphones: Total revenue = $20,400 Total cost = $12,250 Profit = $20,400 – $12,250 = $8,150
- Producing 103 smartphones: Total revenue = $20,600 Total cost = $12,390 Profit = $20,600 – $12,390 = $8,210
- Producing 104 smartphones: Total revenue = $20,800 Total cost = $12,540 Profit = $20,800 – $12,540 = $8,260
- Producing 105 smartphones: Total revenue = $21,000 Total cost = $12,700 Profit = $21,000 – $12,700 = $8,300
If the company produces 106 smartphones, the total revenue will be $21,200, and the total cost will be $12,870, resulting in a profit of $8,330. However, if it produces 107 smartphones, the total revenue will be $21,400, but the total cost will rise to $13,050, yielding a profit of only $8,350.
In this example, the company maximizes its profit by producing 106 smartphones, as that is the level of production at which the difference between total revenue and total cost is the highest. At this point, the firm’s marginal revenue and marginal cost are equal, which is the condition for profit maximization in economics.
