CH. 7 Production, costs, and industry structure

Marcie quit her job as a preschool teacher, which paid an annual salary of $28,000, and became a street food vendor. She used $8,000 out of her savings account that paid a 4% annual interest rate to buy a street cart to sell food. In her first year of operations, she spent $10,000 on food and supplies (napkins, cups, plates, etc.) and earned total revenue of $45,000. Marcie's accounting profit is ______ and economic profit is ______.

$35,000; $6680 $45,000 minus direct expenses of $10,000 yields the accounting profit of $35,000. Subtract the foregone salary ($28,000) and the foregone interest on the $8000 ($320) invested into the business, and you get the economic profit of $6680. The $8000 taken from the bank account is not an expense. That is an asset converted from cash to equipment.

____________ tells a firm whether it can earn profits given the price in the market.

Average cost

factors of production

Natural resources, , labor, capital, technology, entrepreneurship

total revenue

Price x Quantity

factor payments

Raw materials prices, rent, wages and salaries interest and dividends, profit for entrepreneurship

What does production entail?

What to produce, how to produce it, how much of it, what price to charge, how much labor should be employed

cost

Workers (L) x Wage Rate per hour

variable cost

a cost that rises or falls depending on the quantity produced

economic profit

accounting profit - implicit costs Total Revenue - Total Costs

explicit costs

actual payments; out-of-pocket costs; production costs

A LRAC curve with a flat bottom...

allows firms to compete because they have a variety of outputs to produce at

diseconomies of scale/decreasing returns to scale

an increase in a firm's scale of production leads to higher costs per unit produced; as Q rises, LRATC rises

economies of scale (increasing returns to scale

an increase in a firm's scale of production leads to lower costs per unit produced; as Q rises, LRATC falls

When LRAC has a clear minimum point...

any firm producing a different quantity will have higher costs

Marginal Product (MP)

change in total product/change in labor (workers)

the price a firm charges for a good, the output produced, and labor employed all depend on...

cost conditions and production conditions

variable costs

costs that vary with the quantity of output produced total costs - fixed costs

The graph above illustrates the total cost function for GoodieCookie Co. The changing slope of the total cost curve reflects this company's:

decreasing marginal costs.

If a solar panel manufacturer wants to look at its total costs of production in the short run, which of the following would provide a useful starting point?

divide total costs into two categories: fixed costs that can't be changed in the short run and variable costs that can be.

According to the definition of profit, if a profit-maximizing firm will always attempt to produce its desired level of output at the lowest possible cost, then it will

do so regardless of what type of competition exists in a market.

When __________________ exist, doubling of all inputs will result in more than doubling output, which means __________________________________________.

economies of scale; a larger factory can produce at a lower average cost than a smaller company

"Constant returns to scale" describes a situation where

expanding all inputs does not change the average cost of production.

fixed cost

expenditure that a firm must make before production starts; a cost that does not change in the short run, no matter how much of a good is produced

Average Fixed Cost (AFC)

fixed cost divided by the quantity of output

average variable cost curve

initially falls because of increasing marginal returns but then rises because of diminishing marginal returns. is generally U shaped. production is relatively inefficient at low levels of production, become more efficient at greater levels of production, but then become inefficient again due to crowding. (VC/QP)

implicit costs

input costs that do not require an outlay of money by the firm; opportunity costs

variable input

input that can change in a short period of time

In their calculation of profit, accountants typically do not take into account

opportunity costs

In their calculation of profit, accountants typically do not take into account:

opportunity costs.

short run

period of time during which at least some factors of production are fixed

Firms will enter an industry when the:

price rises above the minimum of the average total cost curve.

average profit

profit divided by the quantity of output produced; profit margin

If there is a fixed cost, it is. . .

short run

marginal cost curve

shows how the cost of producing one more unit depends on the quantity that has already been produced; upward sloping

long-run average total cost curve

shows the firm's cost per unit at each level of output

average cost...

tells a firm whether it can earn profits given the price in the market.

Marginal Cost (MC)

the extra cost incurred by producing one more unit of a product

long run

the time period in which all inputs (factors of production) are variable

Average Total Cost (ATC)

total costs divided by quantity of output

accounting profit

total revenue - explicit costs

profit

total revenue - total cost

Average Variable Cost (AVC)

total variable costs divided by quantity of output

average total cost curve

typically U-shaped (TC/TQ)

diminishing marginal returns

when the marginal gain in output diminishes as each additional unit of input is added

If a comparison between average cost and price reveals whether a firm is earning profits, then a comparison between average variable cost and price reveals

whether the firm is earning profit if fixed costs are left out of the calculation.