Money - Meaning and Definition | Four functions of money

The importance of money
Money plays an important role in economics. It acts as a medium of exchange for goods and as the unit and store of value for execution of transactions. Without money, it would have been much difficult to procure your goods and services. In the ancient barter system, one has to search for the person who can exchange his goods with those of the goods required by him. So, both parties to the barter system should have the product desired by each other and/ or the need and interest for the same products. But, in the modern money economy, we need not search for the person who likes your product and exchanges it with the product needed by you. You can sell your product directly in the market and get money in return. Then you can buy with that money whatever is required by you. It becomes very easier for you to make any kind of transaction with money. You can buy goods or services at your own time, make payments of bills, keep it in banks for future uses, transfer it to any part of the world and utilise it there. So, this is the benefit and importance of money in your life.

What is money? Meaning and definition of money
Money is a medium of exchange that is generally acceptable to people as a unit of exchange and as a store of value. Generally, the currency notes and coins are considered as money by public. It is a kind of instrument having the purchasing power and capable of being stored for future uses.

The great economist Geoffrey Crowther, who was the editor of a newspaper "The Economist" during the 1930s and 1940s and later became the Managing Director and Chairman of Economist Newspaper Ltd., defined money in his book "An Outline of Money" as follows:

"Anything that is generally acceptable as a means of exchange and which at the same acts as a measure and store of value".

So, money is anything that is legally and socially acceptable for buying and selling things or for making payments of goods and services utilised or in repayment of debts.

Four functions of money in economy
Money performs four major functions -
1) Money is the medium of exchange.
2) Money is a unit of account and measure of value.
3) Money functions as a store of value.
4) Money is a standard of deferred payments.

Of the above four functions, a medium of exchange and measure of value are regarded as primary functions of money. The functions of a store of value and standard of deferred payment are regarded as secondary functions of money as they are derived from the primary functions.

A) Primary functions of money:

1) Medium of exchange
Money is a medium of exchange in the sense that it is used to used to exchange for goods and services. The buyer buys goods and services and pays money for it. The seller sells goods whereas the service provider provides his services and in both cases, they receive money from the receiver of goods or services. Thus, money is an important medium of their transactions.

For example, you buy a chocolate and pay money for it. The seller of chocolate is receiving money in exchange of his chocolate. Similarly, you get the service of a barber to shave your beard and in exchange of it, you are paying the money. Thus, money serves as an important medium of exchange in all transactions.

2) Measure of value or unit of account
Money acts as a unit of account or measure of value. You value any goods or services in terms of money value. You are fixing monetary value per one unit of good or service. So, any goods or services that we buy or sell are quoted by its value per one unit in terms of money.

For example, a chocolate is quoted as of $5 value, a bread is quoted as of $10 value, a computer is quoted as of $10,000 value, so on. Similarly, one shave is quoted at $5 value, one haircut at $10 value, one car wash at $20 value like that. When you give the value per unit of good or service it becomes very easy to identify those goods and services and compare them with other similar products or services offered by different seller or providers.


B) Secondary functions of money:

1) Store of value
Money can be stored and used subsequently without losing its value for a certain period. Money can be used only when you need to buy or procure something. Till then, you can keep your money in your purse or wallet or you can keep it in your bank account. So money is stored for your future needs. With that, you can buy anything like rice, bread, chocolate, wheat flour, car, computer, so on. Thus, you are storing the purchasing power of money for a certain period, until you actually need the goods or services. So, you are much relaxed as you know that you can purchase anything with the stored value of money. This is one wonderful function performed by money.

This function of money comes from the primary functions of money acting as a unit of account and as a medium of exchange. It is because of those two functions, that you are capable of storing money. It is because of the fact that money is generally accepted as a medium of exchange, that you are keeping it in store. It is because of the fact that it is a unit of transaction, that you are procuring different denominations of money and using them for your purchases.

2) Standard of deferred payments
Money functions as a standard for deferred payments. When someone borrows money from you and agrees to return it after a certain period, he will pay back it in the form of money on that stipulated date along with interest if any charged by you for lending him the money instead of using it for other useful purposes by you. Millions of transactions are taking place now, which are not paid immediately.

Payments get deferred till a certain period of time or till the happening of a certain event or till the actual goods or services reach you. So, till such period, the payment gets postponed or deferred and nobody worries as money will not lose its value even if paid later under normal circumstances. You are able to defer the payment because of the standard value of money and its general acceptability. This function of money has given rise to the various financial institutions and lending businesses and thereby advanced the economic development also.

Definition and explanation of producer equilibrium in economics under different approaches

Just like the consumers indulge in maximising their satisfaction and utility levels by reaching towards consumer equilibrium, the producers also try to reach out to an equilibrium point of maximisation of their profits that is known as "producer equilibrium".

What is producer's equilibrium?

Producer's equilibrium is that point in the scale of production, at which point, the level of production of any particular commodity gives the maximum profit to the producer of that commodity. So, the total cost of production of that commodity will be much lesser than the total revenue obtained through sale of that commodity at that level. It is the maximum possible profit that any producer can obtain at that equilibrium point.

In other words, producer equilibrium refers either to the level of profit maximisation or otherwise, to the level of cost minimisation. Cost minimisation also results in profit maximisation.

Definition of producer equilibrium in economics

• Producer's equilibrium can be defined as a state of economic condition that leads to achievement of that level of output after reaching which, no further maximisation of profit is possible.
• It is that stage where there is no further inclination towards expansion or contraction of the output.
• It is that point where there is maximum profitability and / or minimal loss.

Two approaches towards producer equilibrium

There are two approaches for reaching out to producer's equilibrium:

1) the TR - TC approach and

2) the MR = MC approach.

There can be two types of markets for studying producer equilibrium

a) Perfect competition market where prices remain constant and

b) Imperfect competition market where prices are either raising or falling constantly.

We need to study the equilibrium under both these conditions of the markets.

Now, let us study producer's equilibrium under all these different conditions, one by one.

I) Total Revenue - Total Cost (TR - TC) approach

Under TR - TC approach, the producer tries to attain equilibrium point by maximising his profits to the utmost possible level. So, this implies that the TR-TC approach should satisfy two conditions.

• The difference between Total Revenue and Total Cost has been maximised.
• Any further effort to increase output after that point will result in a fall of the total profit.

Let me explain this under both circumstances of perfect competition and Imperfect competition.

i) The producer equilibrium under perfect competition (When prices remain constant)

When prices are constant in perfect competition, producer goes on increasing output or sales and is able to enjoy maximum profit till a certain point after which, he may not be able to produce more without adding extra machinery or extra expenses and capital. So, addition of capital and machinery may result in increased costs of the product. Or, otherwise, he may not be able to sell more unless he decreases the price, which also may result in decrease of profits.

Let us study it through a table as below.

Price per unit       Output (units)      Total Revenue     Total Cost     Profit

      6                        1                          6                      5                  1

      6                        2                        12                     10                 2

      6                        4                        24                     19                 5

      6                        6                        36                     28                 8

      6                        7                        42                     34                 8

      6                        8                        48                     41                 7

From the above illustration, we can see that producer equilibrium has been achieved at the output level of 7 units, at which point you are able to maintain the maximum profit of 8 dollars by producing maximum output of 7 units. When you tried to increase the output by another unit, the profit decreased to 7 dollars.

The same thing can be illustrated in the form of a graph also.

ii) Now, watch producer equilibrium under imperfect competition (when prices are falling upon increased output )

There is no control over prices, and each producer has his own price fixation norms and sells products accordingly. But, after a certain level of output, he gets forced to lower the prices as he has got excess stocks of output. The below example illustrates this position.

Price per unit       Output (units)      Total Revenue     Total Cost      Profit

       8                       2                          16                    10                   6

       7                       3                          21                    14                   7

       6                       5                          30                    21                   9              

       5                       6                          30                    23                   7

The producer equilibrium in the above example is attained at output level of 5 units. After that level, additional output of another unit resulted in fall of total profit.

II) Marginal Revenue = Marginal Cost Approach (MR = MC approach)

According to this approach, producer equilibrium is attained where the marginal revenue of additional output equals its marginal cost.

This approach should satisfy the following two conditions or assumptions:

1) MC = MR

2) Marginal cost becomes higher than Marginal Revenue if one more addition to output takes place after reaching the output level of MR = MC

Let us study this approach also under both the perfect and imperfect competition conditions of the market.

i) Producer equilibrium under perfect competition (when price is constant)

When price is constant, each unit of output is sold at the same price. So, the average price (AR) of any particular unit is same for each and every unit. The marginal revenue (MR) will be same as the AR and the marginal revenue (MR) also will be same as AR for each unit. So, you will enjoy the producer equilibrium until there is any rise in MC or fall in MR.

Let me illustrate this with a table as below.

Price (Rs.)    No.of units         TR            TC              MR            MC          Profit (TR-TC)

6                    1                     6                8                6                 8                -2

6                    2                    12              15                6                 7                -3

6                    3                    18              20                6                 5                -2

6                    4                    24              24                6                 4                 0

6                    5                    30              28                6                 4                 2

6                    6                    36              34                6                 6                 2

6                    7                    42              41                6                 7                 1

From the above, we can see that the producer was incurring losses initially and he went on increasing his output to nullify the losses and make profits. When he produced 4 units, there were no losses. At the level of 5 units production and 6 units production, he was able to make profits of 2 points. At the level of 6 units production, the MR is equal to MC. When he tried to increase output by one more unit, the profit decreased again. So, the producer equilibrium output is 6 units in this case.

ii) Producer equilibrium under imperfect competition (when price falls with increase in output)

When there is no perfect competition among sellers, the producers and sellers try to maximise their profits, by indulging in unhealthy practices. They take advantage of some monopolistic circumstances and charge very high prices to gain maximum profits. This is workable until certain stage. But when the quantity produced becomes too much with alternative identical products coming into the market, demand gets distributed among identical products and naturally each brand of product loses its demand in the long run. The effect will be fall in prices of products. So, too much increase in production will result in fall of prices. In such circumstances, the producer has to decide upon his maximum level of production based on producer equilibrium. He will try to match Marginal Cost with Marginal Revenue in deciding his level of production.

Let us consider an example to arrive at this producer equilibrium under changing prices of market.

Qty. produced   Price per unit           Total              Total       MR      MC      Profit 

                                                     Revenue           Cost                             (TR-TC)

           1                    8                        8                   6           8        6            2

           2                    7                       14                 11           6        5            3

           3                    6                       18                 15           4        4            3

           4                    5                       20                 18           2        3            2

In the above illustration, it is noticed that MR and MC are both equal to one another at the level of 3 units production. After that level, when production is increased to 4 units, the profit began decreasing as MC is higher than MR at that point. So, producer equilibrium level of output is 3 units in this case.   

From the above study of producer equilibrium, we are able to notice two salient features.

1) Under perfect competition (where prices remain constant), Price = MR = MC, ie. the product price, marginal revenue and marginal cost equal to one another at the equilibrium point.

2) Under imperfect competition (where prices fall with every increase in supply or production), Price is always greater than MC or MR as equilibrium is attained at a point of MC=MR and marginal revenue will be always decreasing with additions of supply.                  

Consumer Equilibrium, indifference curve and consumer behaviour

It is assumed that consumers are constantly engaged in efforts to maximise their total utility. They always try to satisfy their needs through different combinations and choices of goods to maximise utility. So, the solutions that they find after making so many experiments and  decisions in maximising their satisfaction is known as the consumer equilibrium. It is arrived at with a set of indifference curves depicting their preferences for goods.

An indifference curve is a curve formed on a graph by connecting the points of different combinations of two commodities that a consumer regards as of equal value and are giving him equal satisfaction. The consumer regards any combination on that curve as of equal value and so he is indifferent to each of those combinations.

With a given income and the present ranges of prices, the consumer has to choose among various alternative combinations of goods and services to get utmost satisfaction and enjoy most of those goods and services. The manner in which he responds and the solution that he finds at a particular level with a given combination is his equilibrium.


Consumer equilibrium definition
Consumer equilibrium is a state of balance achieved by the consumer of goods and products that refers to the quantum of goods and services he can purchase within his given level of income and at the prevailing current prices.

Consumer Equilibrium is the point of balance at which stage, the consumer is able to get maximum satisfaction from a reasonable combination of multiple goods at their given prices and within his income. At this point, he is able to achieve maximum utility level and any shifts from that point will only diminish his satisfaction level.


Assumptions underlying Consumer's Equilibrium
The following are some of the assumptions that are implicit in studying the consumer equilibrium.

• Consumer's income is given and he has to act within that income.
• The prices are set and stable for the time being under study.
• It is assumed that there are two goods X and Y and he has to choose various combinations of those two goods.
• The indifference curve is the maximum possible level of satisfaction within his income selected from the indifference map or set of indifference curves.

Now, let us take an example. Suppose your income is $100 and you have to purchase two goods within that income. Let us assume that price of product X is $10 and that of product Y is $20. Now if you want to purchase only one commodity, then you can purchase either 10 units of X or 5 units of Y. But, you can't have only one item. You want to buy both items to maximise your satisfaction levels. So, you will try different combinations and the results are depicted through the indifference curves in the below indifference map.

In the above figure, X axis depicts product X and Y axis depicts product Y. At the right hand side  tip of each curves IC stands for indifference curve. So, there are four indifference curves drawn by us named IC1, IC2, IC3 and IC4. You will be able to notice that points on IC1, 2 and 3 fall within your income range. But IC4 is completely out of your income range as it is away and out of the price line. Price line AB is tangent to the indifference curve IC3 touching it at point E. So, point E can be considered as the consumer equilibrium point at which he is able to maximise his satisfaction levels by purchasing Q1 units of product X and Q2 units of product Y. Any other points on lower levels touching the price line will be of lesser satisfaction. Further, he is not spending his full income at those points. Points at higher levels do not touch the price line AB and so they are not in his income range.

So, consumer equilibrium is that point of level, where the consumer is able to maximise his satisfaction by spending his full income on those products in a better way. In practical life, there are so many products that the buyer purchases and it is a more complicated problem. The decision making ability of consumer shows his smartness and prudence in attaining consumer equilibrium.

Price fixing and factors determining price line

What is price fixation? 
Price fixing is the process of determining the price of a product for sale in market. It is believed that it is rather a kind of agreement between businessmen to buy or sell goods at a price not lesser than a particular price. It is applied for safeguarding their minimum profits by averting competition from rivals who may try to sell at lower prices for their selfish gains.

But, it is not a good practice and governments try to safeguard the interests of consumers by prohibiting unhealthy practices through enforcement of laws and other measures.

Let us now look at how prices of commodities are determined under normal market conditions.

How prices are determined?

• Under normal circumstances, in healthy market conditions, prices are determined by the interaction of supply and demand forces.
• Generally, the supplier or manufacturer fixes the price of his product after taking into account all his cost factors and then adding a margin of profit for himself.
• So, the price is fixed at a rate which includes cost + profit. 
• But, producers and / or suppliers may try to add a higher percentage of profit to the cost in fixing their prices.
• So, the forces of supply and demand in the market come to our rescue in safeguarding the interests of consumers by settling at an equilibrium point of price.

Major factors influencing price determination

The following are some of the important factors affecting price determination.

Cost of production
Cost of production is the basic element of price. The producer of the product incurs some basic costs towards raw materials and ingredients involved in the production of his products. He further incurs the labour cost, the salaries of staff, rent of the building, any machinery and godowns involved in producing the product and other costs like electricity, stationery and depreciation of assets and tools used in producing the output. So all these elements constitute the cost of his product.
So, the producer or supplier fixes his price by summing up all these costs and dividing that total cost with the quantity that is produced at any period. This average cost should be fully realised by him from the buyers.

Competition in market
Competition in market from similar product dealers also influences the price. If there are many sellers of the same commodity, each one of them will try to maximise his sales by giving incentives to buyers. Buyers generally buy from a dealer who offers the products at comparatively lower prices. Even a small fraction of a currency unit charged lower can allure the buyers. So, the producer or supplier needs to pay attention to this factor of market competition in fixing his prices.

Value of product to the buyer
This is one more important element in fixing the price. The value that buyers attach to the product is a very sensitive part of price. Necessities like food grains, salt, sugar are more important for consumers. So, they cannot live without these products. The producer or supplier can fix the prices with some margins in such products without losing market.

The forces of supply and demand
The forces of demand and supply play major role in price determination. Buyers normally tend to purchase products at reasonably lower prices to get maximum satisfaction. Similarly sellers try to maximise their profits by selling things at higher prices. So, when both these forces interact, the buyers will restrict their purchases when the prices increase and increase their purchases when prices fall. Naturally, when there are no buyers at increased prices, the supplier is forced to decrease his price a little to attract buyers. When price falls the buyers will increase their demand. Similarly, when the prices fall too much, there will be excessive demand for products but the supplier may not have enough supply to meet their demand. Then, buyer will be willing to buy at an higher price. Thereby, the prices will increase. In this way, the price level settles at a point of equilibrium where quantity demanded and quantity supplied matchup. Price gets influenced in this way with the forces of supply and demand.

Government policies
Government can always try to regulate the prices through its policies and laws to safeguard the interests of consumers. So, the producers and sellers have to fix their prices in accordance with those policies and guidelines or else they may have to face legal proceedings and bans.

Law of Demand, demand schedule and demand curve

The law of demand states the relationship between the price of a commodity and the quantity demanded of it. It studies and explains the spending and purchasing habits of consumers at any time.

Whereas suppliers of goods and services tend to increase supplies of their product into market as a result of the increase in prices, the consumers tend to react inversely. Consumers begin to shrink their demand for those goods and services whose prices begin to increase.

This decrease in demand happens because, consumers have to make purchases from within their own financial capacities. Naturally, they tend to curtail their purchases of costly items and shift their attention towards lower cost commodities.

The law of demand is based on this trend of the decreasing demand for goods and services whose prices are spiralling upwards. It assumes that other factors remaining same, changes in prices will result in changes in demand.

So, the law of demand and law of supply are inversely related to each other.

The law of demand definition
Law of demand states that, other factors remaining constant, as the price of a good or service increases, the consumer demand for it will decrease. So, according to this law of demand, the price of a commodity and quantity demanded are inversely related to each other. If the price rises, demanded quantity will decrease and if the price falls, demanded quantity will increase.

• The demand for any commodity is expressed as at a given price and as at a particular time or for a given period of time.

What is demand schedule
Demand schedule is a chart showing various prices of the commodity and the quantities demanded of it at each price range.

Let me give an example here.
Suppose a consumer goes to purchase Sugar. He buys 5 kg sugar when the price is at Rs.30 per kg. Suppose the price increases to Rs.40. Then he will buy only 4 kg. and if the price further increases to Rs.50, he will be buying only 3 kg. As the price goes on increasing, he will go on decreasing his quantities of consumption. Or, conversely, when the prices fall, he will be increasing the quantities of his purchases. The same thing can be represented in the demand schedule as below.

Demand Schedule for Sugar                                                      

Price of sugar	Qty. of demand
30	5 kg
40	4 kg
50	3 kg

The above example is for a particular person's  individual demand. So, if we consider the demand of other people also for the commodity of Sugar, then it will be deemed as the total market demand for sugar. Suppose there are 10 people and each one demand various quantities at each price level. Then, you will have to add all the quantities demanded by all people for each price level to know the total demand at each price level. This is known as market demand for sugar. 

Demand Curve
A demand curve is a graph representing the relationship between price of a commodity and the quantity demanded by consumers at each price level of that commodity. It is a graphical representation of the demand schedule.

So, from the above figures of demand for sugar at different prices, we can prepare the demand curve as shown in the figure below.

Demand Curve for Sugar

In the above figure drawn with hand by me, the demand curve is the slant line at the top right hand corner of the image. It slants downwards because, with every increase in price the demand comes down.

Regarding factors affecting supply and demand, you may view for details at this link.

The law of supply definition | supply schedule | supply curve

As we have seen earlier, a supplier always tries to sell more and more commodities when the prices are high and reversely, restricts his supplies when prices start falling. This is the underlying fact of supply.

The law of supply employs this basic reality in its definition. It assumes that while other factors determining supply are constant, changes in price will result in changes of quantities supplied.

Law of Supply

The law of supply states that "all other factors remaining constant, an increase in price will result in an increase in quantity supplied and vice versa". In other words, the law of supply states that there is a direct relationship between price and quantity.

What is supply schedule

Supply schedule is a table or chart depicting the changes in quantities supplied at different prices of a commodity based on the above law of supply.

Suppose a supplier deals in the rice business. At a price of say Rs.50 per kg., the supplier will be putting into market all of his stock say 10,000 kg. of rice. If the price comes down to Rs.45 per kg., he will be supplying only say 8,000 kg. If the price further goes down to Rs.40, he will restrict more supplies and will be supplying only 5,000 kg. On the other hand, suppose price increases from Rs.50 to Rs.60 per kg., then he will try to procure more stocks from other sources and increase his supplies to 15,000 kg or like that. 

The same thing can be presented in the shape of a chart as shown below.

Supply Schedule chart

Price of Rice (Rs. Per kg)	Quantity of rice supplied (in Kg)
60	15,000
50	10,000
45	8,000
40	5,000

So, it is clear from the above supply schedule that the supplier decreases his supply quantity when prices fall. If you view the chart from bottom to top, you will realise that the supplier has increased his supplies whenever the price increased from previous price. The same thing can be illustrated through a supply curve also.

Supply Curve

A supply curve is the line or graph joining all the points of the supply levels at various prices of commodities.

Supply curve can be defined as the graphic representation of the relationship between price of a commodity and the quantities supplied by the supplier.

The quantities supplied are measured by the horizontal axis and prices of the commodity on the vertical axis.

From the above supply schedule of rice, we can draw the supply curve. We can start with the price as 'zero' and quantity supplied also as zero. So, the supply curve will be like this as represented below.

The supply curve will rise upwards as and when prices increase, because the supplier will go on increasing  the supply quantity with every increase in price unless he is unable to do so because of other factors affecting supply.

Regarding factors affecting supply, you may view the information at this link.

What is Revenue or Income in its broader sense and types of revenue in economics

What is Revenue?
Revenue is the income of a business enterprise or any other organisations or governments. Revenue may be either in shape of sales proceeds from goods and services sold or in shape of receipts from other activities and sources of any enterprise or government. So, revenue includes sales income, fees received for services, interests received from investments and receipts from other sources like collection of taxes, duties, etc. It can include even donations received from others, funds received from other social activities, etc. All these receipts are collectively known as revenue.

Revenue is also refereed to as Gross Income or Gross Receipts.

Generally, revenue is measured as being receipts during a certain period of time - say, during a particular week, a particular month or in a year.

Different types of revenue in economics
Sometimes, revenue can be referred to as business revenue, government revenue or association revenue based on the nature of organisation or enterprise.

Business Revenue
Business revenue refers to income or receipts from normal business activities of any organisation. Any type of business that indulges in manufacturing and / or selling of products, or in providing services to its clients receives income either in form of sales or as fees for services. This income is known as 'business revenue'. The main point is that the income should be from their prime business activity. If one is indulged in rental business, then his business income is the rent received. If it is a financial institution, then their income will be from interest and other charges received in lending the loans.

This business revenue can be classified into two parts as Sales income and other income.

Sales Revenue or sales income
Sales revenue denotes the income received by way of sales of goods or services. For a manufacturer, it is income from sales of produced goods. For a grocery or merchant, it is income from sale of provisions or merchandise. For a banker, it can be the sale of loans. To a service provider like consultant or barber or cobbler, it is their service charges received. So, the sales revenue is the main business income.

Other Revenue or other income
While performing a business, it is possible that you may receive some income which is not related to your primary business activity. For example, you are running a manufacturing business. You sell your produce and receive the revenue. Now, you may not be spending all that income for your business. You may deposit some money in fixed deposits or invest in other investments. So, you will be receiving interest from these investments. It is not your sale income. It is to be termed as 'other income'. Similarly, you may sell some old machinery or assets and buy new ones. This sale of old assets is not your primary sale. It is your 'other income'.If you can rent a part of your building or any machinery to others for a short period, the rent received is also treated as 'other income'.

Government Revenue
Government revenue is entirely different from business revenue. Government revenue is the money received from various taxes and duties imposed by the government to meet out its expenditure in running the government and on spending in various development programmes of the country.
The receipts include collections from Income Tax, Goods and Service Tax, Sales Tax, etc. and from duties like Customs Duty, Excise Duty, Export / Import Duty, etc. The government revenue may also include income generated through financial and banking operations and through railways and tourism departments. All these are part of government revenue intended for spending on public works and for welfare of the country.

Association revenue (Social & non-profit organisations)
Association revenue is that type of revenue generated by non-profit organisations and public associations like cooperatives and NGOs. It is a fund created through non-business oriented activities for a common cause of the members of the organisation or for public welfare. The revenue generated includes membership fees of members, donations or charity fund received from outsiders and any financial help received from governments, etc. They may also generate revenue through sponsoring of cultural or any kind of programmes.

Concepts of Total Revenue, Average Revenue and Marginal Revenue
Now, let us study about another nomenclature of revenue terminology as total revenue, average revenue and marginal revenue.

Total revenue
Total revenue refers to the total receipts or income made in business during a period. It can be the whole income by way of sales of goods and services and may include other receipts also. But normally, it is treated as a product of total quantity sold multiplied by the cost of one unit of the product that is sold.
So, Total Revenue = Total quantity* cost per unit.
It can be represented as TR = Q*P where TR is total revenue, Q is quantity sold and P is cost or price per unit.

Average revenue
Average revenue is the value or cost of one unit of production or sales. Generally, businessmen arrive at average revenue by calculating the total expenses incurred by them in producing certain output which includes the value of their own minimum profit and other remunerations to staff and management. So this total expenditure is to be returned back to the business from the revenue that is received through sales. So, price is fixed by them accordingly. So, in most cases, the average revenue will be equal to the average cost of that product. Then only can they realise full production cost.

Average revenue is calculated by dividing the total revenue with the number of units sold.
Average revenue = Total revenue / total quantity sold
AR = TR/ Q where TR is total revenue and Q is quantity sold.

But, we have noticed already that TR is Q*P
So, if we substitute TR with Q*P, then AR = Q*P / Q = P. So, AR is same as P. This is applicable in most of the cases.

Marginal revenue
Marginal revenue is that amount of revenue which is received by sale of one more unit of the product.
Under normal circumstances, if cost or price remains constant, then Marginal revenue should be equal to Average revenue. But, mostly it is not so.
It is due to the fact that if there is plenty of supply, the prices will fall naturally. On the other hand, if there is short supply of goods, people tend to pay more for it than forego it. This is why the need for the concept of Marginal revenue arose.

Marginal revenue = P*(Q+1) - P*Q where P is the price or cost of one unit and Q is quantity.
So, MR = the revenue received by selling (Q+1) units minus revenue received by selling Q units.

For example, if a vendor sells each pair of slippers at Rs.100 per unit and suppose he sold 20 units on one day and 21 units the next day. So, the second day, he sold one extra unit. First day TR was 100*20 =2000 and second day's TR was 100*21 = 2100. His MR on second day is Rs.100.

Suppose he sold 20 units at a price of 100 on first day. But next day he was able to sell 21 units and earned only Rs.2080 as he had to sell extra pair at lower price. Then MR will be only Rs.80, because he earned an extra amount of only 80 (2080- 2000 = 80).

Some facts about Average Revenue and Marginal Revenue

• Average revenue (AR) or Marginal revenue (MR) can increase or decrease depending upon circumstances.
• If lesser quantities are produced, AR will increase as many costs are of fixed nature irrespective of quantity produced and so, price per unit will be fixed at higher rates. Contrarily, if more quantities are produced, AR will be lesser per unit.
• Similarly, MR changes with changes in quantities at certain levels. If more units are sold after a certain point, the marginal revenue per unit will go on decreasing. If lesser quantities are sold than needed by market, then MR may increase per each unit sold.
• Average Revenue is calculated as at a particular level of sales to know the average cost realised from sales and for comparing the cost price with sale price.
• Marginal Revenue is calculated to study the impact of sale of each additional unit. It is used for controlling the quantities of sales to maintain price.
• AR and MR will be the same as far as the seller is able to maintain the same sale price for any volume of sales.
• If the seller is unable to maintain the same price for each levels of sales quantity, then AR and MR will vary.