Econ Ch 13

In the long run, if a very small factory were to expand its scale of operations, it is likely that it would initially experience

economies of scale.

Accounting profit is equal to total revenue minus

explicit costs.

Many decisions are

fixed in the short run but variable in the long run

Economic profit is equal to total revenue minus

the sum of implicit and explicit costs.

Which of the following is a variable cost in the short run?

wages paid to factory labor.

Implicit Costs

Input costs that do not require an outlay of money by the firm

Explicit Costs

Input costs that require an outlay of money by the firm

Economic Profit

Total revenue minus total cost, including both explicit and implicit costs (TR-TC(EC-IC)) - For a business to be profitable from an economist's standpoint, total revenue must cover all the opportunity costs, both explicit and implicit. - A firm making positive economic profit will stay in business. - When a firm is making economic losses (that is, when economic profits are negative), the business owners are failing to earn enough revenue to cover all the costs of production.

Accounting Profit

Total revenue minus total explicit cost (TR-EC) - Accounting profit is usually larger than economic profit.

Diminishing Marginal Product

The property whereby the marginal product of an input declines as the quantity of the input increases - As the number of workers increases, the marginal product declines, and the production function becomes flatter.

Efficient Scale

The quantity of output that minimizes average total cost

Production Function

The relationship between quantity of inputs used to make a good and the quantity of output of that good

Fixed costs plus variable costs equal total costs.

True

The marginal-cost curve crosses the average-total-cost curve at its minimum. Why?

This point of intersection is the minimum of average total cost.

Average Total Cost

Total cost divided by the quantity of output (TC/Q)

If a firm continues to employ more workers within the same size factory, it will eventually experience diminishing marginal product.

True

If there are implicit costs of production, accounting profits will exceed economic profits.

True

If total revenue is $100, explicit costs are $50, and implicit costs are $30, then accounting profit equals $50.

True

Profit

Total revenue minus total cost (P=TR-TC)

If, as the quantity produced increases, a production function first exhibits increasing marginal product and later diminishing marginal product, the corresponding marginal-cost curve will be U-shaped.

True

The average-total-cost curve in the long run is flatter than the average-total-cost curve in the short run.

True

When marginal costs are below average total costs, average total costs must be falling.

True

Average Variable Cost

Variable cost divided by the quantity of output (VC/Q)

If there are implicit costs of production,

accounting profit will exceed economic profit.

Whenever marginal cost is less than average total cost,

average total cost is falling. EX: Average total cost is like your cumulative grade point average. Marginal cost is like the grade in the next course you will take. If your grade in your next course is less than your grade point average, your grade point average will fall.

Whenever marginal cost is greater than average total cost,

average total cost is rising. EX: Average total cost is like your cumulative grade point average. Marginal cost is like the grade in the next course you will take. If your grade in your next course is higher than your grade point average, your grade point average will rise.

The efficient scale of production is the quantity of output that minimizes

average total cost.

When marginal costs are below average total costs,

average total costs are falling.

If marginal costs equal average total costs,

average total costs are minimized.

If, as the quantity produced increases, a production function first exhibits increasing marginal product and later diminishing marginal product, the corresponding marginal-cost curve will

be U-shaped.

If a production function exhibits diminishing marginal product, its slope

becomes flatter as the quantity of the input increases.

If a production function exhibits diminishing marginal product, the slope of the corresponding total-cost curve

becomes steeper as the quantity of output increases.

Which of the following statements is true?

All costs are variable in the long run.

Total revenue equals the quantity of output the firm produces times the price at which it sells its output.

True

Average Fixed Cost

Fixed cost divided by the quantity of output (FC/Q)

Madelyn owns a small pottery factory. She can make 1,000 pieces of pottery per year and sell them for $100 each. It costs Madelyn $20,000 for the raw materials to produce the 1,000 pieces of pottery. She has invested $100,000 in her factory and equipment: $50,000 from her savings and $50,000 borrowed at 10 percent (assume that she could have loaned her money out at 10 percent, too). Madelyn can work at a competing pottery factory for $40,000 per year. The economic profit at Madelyn's pottery factory is

$30,000.

Madelyn owns a small pottery factory. She can make 1,000 pieces of pottery per year and sell them for $100 each. It costs Madelyn $20,000 for the raw materials to produce the 1,000 pieces of pottery. She has invested $100,000 in her factory and equipment: $50,000 from her savings and $50,000 borrowed at 10 percent (assume that she could have loaned her money out at 10 percent, too). Madelyn can work at a competing pottery factory for $40,000 per year. The accounting profit at Madelyn's pottery factory is

$75,000.

The cost curves shown here share the three properties that are most important to remember:

- Marginal cost eventually rises with the quantity of output. - The average-total-cost curve is U-shaped. - The marginal-cost curve crosses the average-total-cost curve at the minimum of average total cost.

Summary

- The goal of firms is to maximize profit, which equals total revenue minus total cost. - When analyzing a firm's behavior, it is important to include all the opportunity costs of production. Some of the opportunity costs, such as the wages a firm pays its workers, are explicit. Other opportunity costs, such as the wages the firm owner gives up by working in the firm rather than taking another job, are implicit. Economic profit takes both explicit and implicit costs into account, whereas accounting profits considers only explicit costs. - A firm's costs reflect its production process. A typical firm's production function gets flatter as the quantity of an input increases, displaying the property of diminishing marginal product. As a result, a firm's total-cost curve gets steeper as the quantity produced rises. - A firm's total costs can be divided between fixed costs and variable costs. Fixed costs are costs that do not change when the firm alters the quantity of output produced. Variable costs are costs that change when the firm alters the quantity of output produced. From a firm's total cost, two related measures of cost are derived. Average total cost is total cost divided by the quantity of output. Marginal cost is the amount by which total cost rises if output increases by 1 unit. - When analyzing firm behavior, it is often useful to graph average total cost and marginal cost. For a typical firm, marginal cost rises with the quantity of output. - - Average total cost first falls as output increases and then rises as output increases further. The marginal-cost curve always crosses the average-total-cost curve at the minimum of average total cost. A firm's costs often depend on the time horizon considered. In particular, many costs are fixed in the short run but variable in the long run. As a result, when the firm changes its level of production, average total cost may rise more in the short run than in the long run

Total Revenue

-The amount a firm receives for the sale of its output -Equals the quantity of output the firm produces times the price at which it sells its output (PxQ=TR) EX: Caroline produces 10,000 cookies and sells them at $2 a cookie, her total revenue is $20,000.

Fixed Costs

Costs that do not vary with the quantity of output produced EX: fixed costs include any rent he pays because this cost is the same regardless of how much coffee he produces.

Variable Costs

Costs that vary with the quantity of output produced EX: variable costs include the cost of coffee beans, milk, sugar, and paper cups... the salaries of these workers are variable costs.

The efficient scale for a firm is the quantity of output that minimizes marginal cost.

False

Wages and salaries paid to workers are an example of implicit costs of production.

False

When a production function gets flatter, the marginal product is increasing.

False

Overview

Explicit costs Costs that require an outlay of money by the firm Implicit costs Costs that do not require an outlay of money by the firm Fixed costs Costs that do not vary with the quantity of output produced FC Variable costs Costs that vary with the quantity of output produced VC Total cost The market value of all the inputs that a firm uses in production TC= FC+ VC Average fixed cost Fixed cost divided by the quantity of output AFC= FC/Q Average variable cost Variable cost divided by the quantity of output AVC= VC/Q Average total cost Total cost divided by the quantity of output ATC= TC/Q Marginal cost The increase in total cost that arises from an extra unit of production MC= Δ TC/Δ Q

Average total costs are total costs divided by marginal costs.

False

If the production function for a firm exhibits diminishing marginal product, the corresponding total-cost curve for the firm will become flatter as the quantity of output expands.

False

In the long run, as a firm expands its production facilities, it generally first experiences diseconomies of scale, then constant returns to scale, and finally economies of scale.

False

The average-total-cost curve crosses the marginal-cost curve at the minimum of the marginal-cost curve.

False

Constant Returns to Scale

The property whereby long-run average total cost stays the same as the quantity of output changes

Marginal Product

The increase in output that arises from an additional unit of input

Marginal Cost

The increase in total cost that arises from an extra unit of production

Total Cost

The market value of the inputs a firm uses in production

Economies of Scale

The property whereby long-run average total cost falls as the quantity of output increases EX: Often arise because higher production levels allow specialization among workers, which permits each worker to become better at a specific task. For instance, if Ford hires a large number of workers and produces a large number of cars, it can reduce costs with modern assembly-line production.

Diseconomies of Scale

The property whereby long-run average total cost rises as the quantity of output increases EX: Diseconomies of scale can arise because of coordination problems that are inherent in any large organization. The more cars Ford produces, the more stretched the management team becomes, and the less effective the managers become at keeping costs down.