Do Firms Maximise Profits?

What are the problems with the assumption of Profit Maximising?

Profit maximisation is an assumption of classical economics. One can easily understand the logic of pursuing profit maximisation.

• Profits enable greater wages and dividends for the entrepreneurs who set up the company.
• Profit can be used to finance investment in expanding the company
• Profit provides a fall back for difficult times

However, despite the benefits of profit maximisation. In practices there are several occasions where firms will not pursue profit maximisation.

1. Profit Satisficing

The owners wish to maximise profits, but the workers and managers don’t. The owners shareholders have a stack in the firms profits but workers often do not. Therefore, workers have little incentive to maximise profits. Workers make enough profits to keep their jobs, but then pursue other objectives such as Enjoying work.

2. Increasing market Share.

Often firms seem to be most concerned with increasing their market share. This could be labelled sales maximisation. The benefits of increasing market share include:

• Economies of scale
• more power and prestige for being a big company
• Increased market share enables more monopoly power and therefore greater chance to set higher prices in the future.

3. Non Economic Motives

Humans don’t always make decision on financial / economic motives.  They may consider issues such as

• society
• environment
• welfare of workers and stakeholders

In evaluation you could argue that these other objectives are actually just a clever way to increase profits in the long run.

How Firms maximise profits