Costs of production

Fixed costs - definition

Costs that do not vary with the level of production or sales, in the short run they remain constant no matter the output

What are fixed costs, some examples?

Associated with the basic operations of a business, also known as overheads

How do fixed costs correlate to output required?

The higher the level of fixed costs, the higher the output needed to break even.

Variable costs - definition

Costs that change based on short run level of production changes, increase as output increases.

How are variable costs linked to marginal costs?

Variable costs are determined by the marginal cost of extra units of output as more variable inputs are hired.

Examples of variable costs

Bonuses, raw materials, part time wages, energy costs

Average cost equation

Total cost/ quantity

Average variable cost equation

Total variable cost/ quantity

Average fixed cost equation

Total fixed costs/quantity

Average total cost equation

Average variable cost + average fixed costs

Graph for average and total fixed costs + explanation

Total fixed costs - constant no matter the output (short run)

Average fixed costs - decrease as cost spread over a larger output

Total cost, variable cost and fixed cost graph

(straight line)

When variable costs = 0, Total cost = fixed cost

Average costs graph

Marginal cost - definition

The cost added by producing one more unit of a good/service.

Marginal cost equation

Change in total cost/ change in output

Marginal Costs and Average total cost graph

If MC<AC, last unit produced costs less than the average good, so average total cost falls

IF MC = AC, average cost remain constant, as the cost of the last unit produced is the same as that of the average good

IF MC>AC, last unit produced costs more than the average good, so average total cost rises

Marginal cost & total, variable, fixed average cost graph

Difference between average cost and average variable cost lines = average fixed costs

What effect does a change in fixed cost have?

Causes average cost curve to shift

Variable and marginal costs unaffected.

What affect does a change in variable cost have?

Increases both total avg cost and marginal cost.

Causing an upward shift in both curves.

How does marginal cost link to total cost?

• Total cost is always increasing with output.

• TC rises at a diminishing rate as MC falls, each extra output is adding less and less to TC.

• Then TC rises at increasing rate as MC rises.