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Marginal Revenue: Definition & Equation Video

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  • 0:00 Marginal Revenue Defined
  • 0:19 Price, Market &…
  • 1:50 Formula
  • 3:13 Lesson Summary
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Lesson Transcript
Instructor: Shawn Grimsley
Manufacturers and service providers need to know if it's worth creating more products or services. In this lesson, you'll learn about marginal revenue, including what it is, related concepts, and how to calculate it. A short quiz follows.

Marginal Revenue Defined

Marginal revenue is the change in total revenue resulting from producing one more unit of output - one more unit of a good or service. Marginal revenue is calculated by figuring out the difference between total revenues produced, before the additional unit of output and after you increase production by one unit.

Price, Market and Marginal Revenue

If the price of the good or service remains the same, then marginal revenue will simply equal the price at which the output is sold. If you sell a smart phone at $200, one more unit of production will increase your total revenue by $200. Of course, the world isn't that simple. The law of supply and demand will enter into the picture:

  • If supply is low, but demand is higher, prices go up
  • If supply is high, but demand is low, prices go down
  • Prices will reach an equilibrium where demand equals supply

So why does this matter for marginal revenue? If you produce more output, you may have to lower your price to sell the additional output, which will create less additional revenue.

There is one more piece to the puzzle. There should be no increase production when the marginal cost exceeds marginal revenue. Costs are not always constant; in fact, there are usually not. For example, the more precious metal you and others use in production, the less of a supply there is of it. If the supply decreases sufficiently enough, the cost of the metal you need to produce the good will increase and so will your marginal costs.

You may actually reach a point where it costs more to make it than you can get by selling it. However, as long as your marginal cost doesn't exceed marginal revenue, you should continue production. In fact, profits are maximized when marginal costs equal marginal revenue, because you have fully tapped the profit potential at this point.

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