Lesson 9

Cost curves

1) MC, ATC and AVC are all U-shaped. 2) MC intersects AVC and ATC at their minimum points: When MC < either AVC or ATC => it causes them to decrease. When MC > AVC or ATC => it causes them to increase. Therefore, when MC = AVC or ATC => they must be at their minimum points. 3) As output increases => AFC decreases. This happens because in calculating AFC, we are dividing something that gets larger and larger—output (quantity)—into something that remains constant—fixed cost. Firms often refer to this process of lowering AFC by selling more output as "spreading the overhead" (where "overhead" refers to fixed costs). 4) As output increases => the difference between ATC and AVC decreases. This happens because the difference between ATC and AVC is AFC, which gets smaller as output increases. 5) MC is upward sloping because of diminishing returns. 6) AVC is upward sloping, but flatter than the MC curve. 7) AFC is downward sloping because of the spreading effect. Realistically speaking though, an increase in specialization of a good will lead to a decrease in MC, which will result in decrease in ATC.

Returns to scale

1) There are increasing returns to scale (economies of scale) when long-run ATC declines as output increases. A firm might experience economies of scale because as a firm expands, it may be able to borrow money more inexpensively. 2) There are decreasing returns to scale (diseconomies of scale) when long-run ATC increases as output increases. 3) There are constant returns to scale when long-run ATC is constant as output increases.

Fixed costs (FC)

Costs that remain constant as output changes.

Average total cost (ATC)

= total cost/total quantity = (fixed cost + variable cost)/ total quantity = AFC + AVC

Average fixed cost (AFC)

= total fixed cost/total quantity

Average variable cost (AVC)

= total variable cost/total quantity

Diminishing returns

Assumption: all else is held equal. If other inputs are fixed, each successive unit of an input will raise production by less than the first input. The principle that, at some point, adding more of a variable input, such as labor, to the same amount of a fixed input, such as capital, will cause the marginal product of the variable input to decline.

Long-run ATC Curve

A curve that shows the lowest cost at which a firm is able to produce a given quantity of output in the long run, when no inputs are fixed. Shows the relationship between output and ATC when fixed costs has been chose to minimalize cost for each level of output. We assume that the firm has chosen the cheapest plant size for each output level.

Production function

A firm's production function describes the relationship between the quantity of inputs and the quantity of outputs it produces. The relationship between the inputs employed by a firm and the maximum output it can produce with those inputs.

Total cost (TC)

Cost of all the inputs a firm uses in production. = Fixed cost + Variable cost

Variable costs (VC)

Costs that changes as output changes.

Variable inputs

Can change the amount any time.

Total product

Output that is produced by all of the employed workers.

Fixed inputs

Quantity is fixed for a period of time.

Marginal cost (MC)

The change in the total costs generated by one additional unit of good. = change in total cost/change in quantity

Spreading effect

The larger the output, the more output over which the fixed cost is "spread", leading to a lower AFC.

Diminishing returns effect

The larger the output, the more variable input is required to produce additional units, which leads to higher AVC.

Marginal product of labor (MPL)

The marginal product of an input (labor) is the additional quantity of good (output) that is produced by using one more unit of that labor (input). The additional output a firm produces as a result of hiring one more worker. intuition? = change in total product/change in labor (input) = slope of the total product curve.

Short-run

The period of time during which at least one of a firm's inputs is fixed. eg: firm's technology and the size of its physical plant—its factory, store, or office—are both fixed, while the number of workers the firm hires is variable.

Long-run

The period of time in which a firm can vary all its inputs, adopt new technology, and increase or decrease the size of its physical plant. This means that in the long run, fixed costs may also vary. The firm will choose its fixed cost in the long run based on the level of output it expects to produce. There is a trade-off between higher fixed cost and lower variable cost for any given output level and vice versa. This is because at low quantity, fixed cost yields lower ATC. However, at high quantity, fixed cost yield higher ATC.

Which of the following is true of the relationship between the average product of labor and the marginal product of labor?

Whenever the marginal product of labor is less than the average product of​ labor, the average product of labor must be decreasing.

market price = 67.5$ how many tubs will a firm produce?

output: 1-> total cost: 60$ 2 -> 80$ profit => marginal revenue = total revenue 4 => profit-max. output Thus, the total revenue = 270$ (4*67.5 => price*quantity) The total cost = 170$ (given in the table) profit = tr - tc = 270$-170$ = 100$

marginal cost of 4th lawn is 40$

total cost of mowing 4 lawns = can't be determined

marginal utility from the 3rd slice of cake = 0

total utility = maximized

atc = $50 afc = $15 output = 20

tvc = $700