Module 5 - Production and Cost

profit

total revenue - total costs

total revenue

income the firm earns from selling its products

total revenue calculation

price per unit x quantity sold

explicit costs

payments made to cover the firm's expenses and are sometimes called out-of-pocket payments

implicit costs

the opportunity cost of using resources already owned by the firm and do not require an outflow of money

accounting profit

total revenue - explicit costs

economic profit

total revenue - explicit costs - implicit costs

4 examples of implicit cost

forgone wages, forgone interest, depreciation, and normal profit

forgone wages

used to measure the value, or opportunity cost, of the time owners dedicate to supporting their business

forgone interest

the opportunity cost of using the owner's money for the business

depreciation

cost to the firm of using its own capital

normal profit

the return to the entrepreneur for taking risks and making decisions

short-run

the period of time during which at least one of a firm's inputs is fixed

long-run

the time period in which all inputs can be varied

total cost

total fixed cost + total variable cost

variable cost

variable cost * # units produced

Law of Diminishing Marginal Returns

The decrease in the marginal output of a production process as the amount of a single factor of production is incrementally increased, while the amounts of all other factors of production stay constant

fixed costs

costs that do not change based on the level of production in the short term

average total cost

total cost / quantity of output

average fixed cost

total fixed cost / quantity of output

average variable cost

total variable cost / quantity of output

marginal cost defined

Extra cost of producing one additional unit of production.

marginal cost calculation

change in total cost / change in quantity of output

long-run average cost curve (LRAC)

The lowest possible average cost of production, allowing all the inputs to production to vary so that the firm is choosing its production technology

economies of scale

when long-run average total cost falls as the quantity of output increases

diseconomies of scale

when long-run average total cost rises as the quantity of output increases

constant returns to scale

when long-run average total cost stays the same as the quantity of output changes