Ch. 14: The Costs of Production

Profit

Total Revenue - Total Cost

Explicit cost

money paid in exchange for the item

Implicit cost

value of the owners time and resources used in production, opportunity cost

Accounting profit

TR - Explicit cost

Economic profit

TR - (explicit + implicit cost)

• account for cost of capital

ATC =

total cost / quantity of output

fixed+var / quantity

AFC =

fixed cost / quantity of output

AVC =

variable cost / quantity of output

Diminishing marginal product explains why, as output increases, the production function gets ___ and the total-cost curve gets ____

flatter, steeper

Marginal cost

the amount that total cost rises when the firm increases production by 1 unit of output

Cost curves for a typical firm

• Marginal cost eventually rises with the quantity of output.

• The average-total-cost curve is U-shaped.

• The marginal-cost curve crosses the average-total-cost curve at the minimum of average total cost.

ATC in short and long run

In the long run, the firm is more flexible

Economies of scale

As output increases, long run ATC declines

Diseconomies of scale

As output increases, long run ATC increases

Constant returns to scale

when long-run ATC does not vary with the level of output

In the short run,

capital is fixed and labor is variable

Marginal cost =

Δ in total cost / Δ in quantity

What does ATC tell us?

the cost of a typical unit of output if total cost is divided evenly over all the units produced

What does marginal cost tell us?

the increase in total cost that arises from producing an additional unit of output

What is the quantity at the bottom of the U-shape of the ATC?

efficient scale

When MC is less than ATC, average cost is ___

falling

When MC is greater than ATC, average cost is ___

rising