Ch 11 - Behind the Supply Curve: Inputs and Costs

the production function

relationship between the quantity of inputs a firm uses and the quantity of outputs it produces

fixed input

input whose quantity is fixed for a period of time and cannot be changed

variable input

an input whose quantity can change at any time

long-run

period in which all inputs can be varied

short-run

period in which at least 1 input is fixed

total product

total output produced in a given period

marginal product of labour

• change in total product that results from a one-unit increase in the quantity of labour, with all other inputs remaining the same

• increase 1 employee → how much increase in output occurs

• MPL = change is quantity / change in labour

average product of labour

• total product divided by quantity of labour employed

• APL = total quantity of output / total quantity of labour

marginal product of labour curve

• initally increases BUT then starts to decrease

• the point at which the marginal product reaches its maximum is the point of diminishing marginal productity

• increases at first due to specialization and division of labour

• starts to decrease as each additional worker has less access to capital and less space to work in

law of diminishing returns

as a firm uses more of a variable input with a given quantity of fixed inputs, the marginal product of the variable input eventually diminishes

average product VS marginal product curves

• marginal product will always intersect at the average products maximum point

• if marginal product is greater than average → pushes average up

• if marginal product in less that average → pushes average down

• if marginal product is the same as average → no change

fixed cost

cost that does no depend on the quantity of output produced (cost of fixed input)

variable cost

cost that depends on the quantity of output produced (cost of variable input)

total cost

the sum of the fixed cost and variable cost of producing that quantity of output

marginal cost

• the change in total cost generated by one additional unit of output (how much it costs to produce 1 more unit)

• MC = change in total cost / change in quantity

marginal product and marginal cost

as the marginal product rises, the marginal cost goes down, after the point of diminishing marginal productivity the marginal product decreases. Each worker starts producing less and less for the same price driving the marginal cost of each additional unit to go up!

average fixed cost

total fixed cost divided by quantity of output produced

average variable cost

total variable cost divided by quantity of output produced

average total cost

total cost divided by quantity of output produced

MC curve and AVC / ATC curves

MC intersects AVC and ATC at their minimums

• MC below = downward sloping AVC / ATC

• MC above = upward sloping AVC / ATC

long-run costs

• all inputs are variable

• firm will choose its fixed cost in the long-run based on the level of output it expects to produce

increasing returns to scale

• output increases more than the increase in inputs

• LR average total cost decreases as output increases

constant returns to scale

• output increases by the same proportion of inputs

• LR average total cost is constant as output increases

decreasing returns to scale

• output decreases by less than the increase in inputs

• LR average total cost increases as output increases

sources of increasing returns

• large ouput bc of specialisation, more skilled and efficient

• high captial → setup cost high (machinery) allows workers to produce more

• value of good increases due to large number of other owning/using good/service

sources decreasing returns

• large firms face problems with coordination and communication → more difficult and costly to communicate and organise activites