Total Revenue
Total revenue is the total amount of money that a firm receives from the sale of its output. Total revenue is calculated as the price of the good multiplied by the quantity sold.
Definition
Total revenue is the product of the price and the quantity. For a firm that sells several products, the total revenue is the sum of the revenue from each product.
The total revenue is a component of the profit of the firm, which is the total revenue minus the total cost. The analysis of the total revenue is central to the analysis of the behaviour of the firm.
Average and Marginal Revenue
The average revenue is the total revenue divided by the quantity sold, which is equal to the price for a firm that charges a single price. The marginal revenue is the change in total revenue from selling one additional unit.
For a competitive firm, which takes the price as given, the marginal revenue equals the price. For a firm with market power, the marginal revenue is less than the price, since the firm must lower the price to sell more.
The relationship between the average revenue and the marginal revenue is central to the analysis of the firm. The marginal revenue is less than the average revenue for a firm with a downward-sloping demand curve, and the difference depends on the elasticity of demand.
Revenue and Elasticity
The relationship between the total revenue and the elasticity of demand is a central result of microeconomics. When the demand is elastic, a reduction in the price raises the total revenue, since the increase in the quantity sold more than offsets the reduction in the price.
When the demand is inelastic, a reduction in the price reduces the total revenue, since the increase in the quantity is proportionally smaller than the reduction in the price.
The total revenue is maximised when the elasticity of demand equals one, at the midpoint of a linear demand curve. The result is central to the analysis of the pricing decisions of the firm.
Applications
The concept of total revenue is used in the analysis of the firm and of the market. It is used in the analysis of the effects of taxes, since a tax reduces the revenue of the firm. It is used in the analysis of the effects of competition, since the revenue of the firm depends on its market power.
The concept is also used in the analysis of the economy, where the total revenue of the firms is a component of the national accounts. The measurement of the revenue informs the analysis of the distribution of income and of the structure of the economy.
The Revenue and the Market Structure
The total revenue and its relationship to the output and to the price differ across the market structures.
In the competitive market, the firm faces the horizontal demand curve, and the marginal revenue equals the price. The total revenue rises linearly with the output.
In the monopoly and the other markets with the market power, the firm faces the downward-sloping demand curve, and the marginal revenue is less than the price. The total revenue rises and then falls, and it is maximised where the elasticity equals one.
The Revenue and the Taxes
The taxes affect the total revenue of the firm, since they raise the cost and reduce the output and the price received.
The incidence of the tax, which is the division of the burden between the consumers and the producers, depends on the elasticities. The less elastic side of the market bears the larger share of the burden.
The analysis of the incidence informs the design of the tax and the assessment of its effects. The design must consider the effect on the revenue of the firm and on the welfare.
The Revenue and the Elasticity
The relationship between the total revenue and the elasticity is a central result, and it informs the pricing decisions of the firm.
The firm that seeks to maximise the revenue sets the price where the elasticity equals one. The firm that seeks to maximise the profit sets the price where the marginal revenue equals the marginal cost, which is where the elasticity is greater than one.
The analysis of the relationship informs the understanding of the pricing and of the behavior of the firm in the different market structures.
The Revenue and the Profit
The total revenue is a component of the profit, and the analysis of the two is closely related.
The firm that maximises the profit sets the output where the marginal revenue equals the marginal cost, which is generally at the lower output than the revenue-maximising level. The difference reflects the cost of the additional output.
The analysis of the relationship informs the understanding of the behavior of the firm and of the effects of the market structure on the output and the price.
Summary
Total revenue is the product of the price and the quantity, and it is a central concept in the analysis of the firm. The analysis of the average and the marginal revenue, of the relationship with the elasticity, of the market structure, and of the relationship with the profit informs the understanding of the firm and of the market.