Short Run & Long Run Costs

the economist prefers to look at how the resource is contributing to creating value,

rather than at arbitrary accounting rules and tax laws.

Diseconomies of scale occur when input is greater than output,

resulting in reduced cost-efficiency and lower profits.

Increasing the scale of the production process gives proportionately more output.

Economies of scale

Economists are concerned with

economic profit.

When economists measure profit, they take into account all the

explicit costs and the implicit costs involved in producing goods and services.

The short run is the time frame in which the quantities of some resources are

fixed, or assumed to be constant.

Long-run average cost curve, by:

By opening a duplicate of the existing equipment and hiring more workers at another site

occur when a given percentage increase in the plant size and labor employed results in the same percentage increase in output and the same average cost per unit.

Constant Returns to Scale

Output increases in a direct proportion to the scale of the production process.

Constant returns to scale

A curve that shows the lowest average cost at which it is possible to produce each output when the firm has had sufficient time to change both its plant size and labor employed.

Long-run average cost curve

Better equipment often reduces costs and increases output, lowering average cost per unit.

Specialization of capital

Specialization of labor, average product of labor increases

and the average total cost decreases.

In the short run, some factors of production cannot be changed. Investments in land, buildings, and equipment

extend beyond the current period of production, and we consider them fixed in the short run.

Most costs incurred in the short run are

fixed, such as rent, utilities, and salaries.

average product (AP) increases as long as the marginal product (MP) of an additional worker

is greater than the average product per worker

The highest valued alternative foregone

is the opportunity cost of a company's production

Average fixed cost is

total fixed cost per unit of output

Total costs can be measured by adding

total fixed costs and total variable costs.

The value of plant and equipment is very much dependent on its intended use,

usually so dependent that investments in many fixed assets are considered irreversible.

In the short run, output is increased or decreased by

varying the quantity of variable productive resources.

Adding total fixed costs (TFC) and total variable costs (TVC)

we have total costs (TC)

Output can also increase proportionally with input, or constant returns to scale,

which results in increased production.

Increasing the scale of the production process gives proportionately less output.

Diseconomies of scale

Long-run average cost curve, by:

Expanding production by investing in new equipment or adding more space

dividing up the process into specialized tasks allows workers to become more skilled at their particular duties, and more productive

Specialization of labor

If a company has already optimized its production process to achieve the lowest possible average cost per unit,

adding capacity might result in less efficiency and higher average costs

short-run costs

are fixed,

long-run costs

are variable

Money spent to increase long-run production is referred to as sunk costs

because the investments are so large that they are irreversible

Explicit costs are those costs that can be readily identified

because they are paid in money.

To measure profit, a business needs to track its opportunity costs—

both explicit such as money laid out for expenses and implicit such as depreciation, capital, and labor.

Variable costs increase with output,

but initially they increase at a lessening rate (slope), which is reflected in variable costs (labor), which do not increase as fast as output

The costs of adding to plant capacity are relevant to long-run decisions,

but maximizing profit in the short run focuses on variable costs, such as labor.

Over the long term, costs are subject to more variables such as

changes in supply or demand or price increases.

If input and output increase proportionally, the result is

constant returns to scale, which can double production

Since short-run production is

for a set period, ostensibly there will not be enough time for costs to change significantly.

Implicit costs are those that involve a factor of production

for which the company does not make a money payment.

Total product is the quantity of goods produced

in a given time period.

The change in total cost that results from an increase of one unit of output

is defined as the marginal cost.

Marginal product is the change in total product that results from a

one-unit increase in the quantity of a factor of production

Diseconomies of scale occur when

output increases less than input

The long run is defined as the time frame in which

quantities of all productive resources can be varied

Fixed costs are generally examined in

short-run planning.

Longer-term costs can also include large investments

such as the costs involved in building a new facility.

Long-run production is more subject to any number of changes in

supply, demand, or related factors that can affect costs

Economists prefer to consider economic depreciation,

the change in market value of the capital asset for fixed assets, and the market interest rates for the cost of funds

any production process adds a single variable factor of production to a given quantity of fixed factors of production, the marginal product of the variable factor eventually decreases

the law of diminishing returns

When output is greater than input,

the result is what economists call economies of scale.

Economists focus on opportunity costs,

the value of the next best alternative use of a scarce resource