Four economic profit theories are: Frictional Profit Theory, Monopoly Profit Theory, Innovation Profit Theory, and Compensatory...

Four economic profit theories are: Frictional Profit Theory, Monopoly Profit Theory, Innovation Profit Theory, and Compensatory Profit Theory. For each one discuss how it may affect the efficiency and the allocation of resources in the economy.

Expert Solution

Frictional Profit Theory : This theory states that the profit arises due to disturbances in the long run equillibrium. Due to unanticipated demand or cost conditions, the market disequillibrium arises which leads to profit condition for certain firms. The market would not be efficient and the resources are concentrated in the hands of only few workforce. The market is not able to change instantaneously to the changes in demand or cost conditions.

Monopoly Profit Theory : The profit arises as a result of dominating position of one individual firm. Market is monopolized with the concentration of all the resources in the hands of one owner and the market is quite efficient.

Innovation Profit Theory : The profit arises as a result of successful innovations of certain firms. The major function of the entrepreneur is to come up with certain innovations and he would be rewarded in the form of profit. The market is efficient and the resources are concentrated in the hands of certain innovators.

Compensatory Profit Theory : This theory states that the above normal profit arises for the firms which are faster, better and cheaper in terms of offering products or services to the customers. Such companies get the first mover advantage and draw maximum profits in the initial period of its products being launched. The resources are concentrated in the hands of first few firms and they are highly efficient.

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