Production cost and efficiency

Total Revenue

The total amount of money a firm receives from the sale of its output

Total Cost

The market value of all the inputs a firm uses to produce its goods or services

Profit

The value calculated by subtracting total costs from total revenue; to increase profit, a firm must increase revenue or decrease costs

Explicit Costs

Direct monetary expenses, such as the actual money a firm spends on labor and raw materials

Implicit Costs

Non-monetary opportunity costs, which include the income or benefits a firm forgoes by not pursuing an alternative business activity

Accounting Profit

A measure of profit calculated by subtracting only explicit costs from total revenue

Economic Profit

A measure of profit that subtracts both explicit and implicit costs from total revenue; a negative value suggests the firm would be better off reallocating its resources

The Short Run

A planning period during which at least one factor of production—typically capital like factory size or equipment—is fixed

Fixed Factor

An input whose quantity cannot be changed in the short run, such as the lease on a building or heavy machinery

Variable Factor

An input that a firm can change in the short run to adjust output, such as the number of workers or tailors hired

Total Product (TP)

The maximum quantity of goods a firm can produce with different amounts of labor while holding capital fixed

Marginal Product (MP)

The additional output generated by adding one more unit of labor ($\Delta Q / \Delta L$), which represents the slope of the Total Product curve

Average Product (AP)

The output produced per unit of labor ($Q / L$), reflecting the average productivity of the entire workforce

The GPA Analogy

A tool to understand productivity where Marginal Product is like a grade in a new course and Average Product is like your overall GPA; if the new grade is higher than the GPA, the GPA rises

Increasing Marginal Returns

The initial phase of production where each new worker adds more output than the previous one because of specialization and team efficiency

Diminishing Marginal Returns

The phase where each new worker still adds to total output, but at a decreasing rate because the fixed factory space is becoming crowded

Negative Marginal Returns

The phase where adding an extra worker actually reduces total output because the workspace is too congested and workers get in each other's way

Law of Diminishing Marginal Returns

The principle that the marginal product of any variable input will eventually fall if the quantities of other factors remain unchanged

Total Fixed Cost (TFC)

Costs that remain constant regardless of the output level, such as a $200 per day lease for equipment

Total Variable Cost (TVC)

Costs that change based on the level of output, calculated by multiplying the number of workers by their daily wage

Total Cost (TC) Equation

The sum of a firm's fixed and variable expenses, expressed as $TC = TFC + TVC$

Marginal Cost (MC)

The cost of producing one additional unit of output ($\Delta TC / \Delta Q$), which is the slope of the Total Cost curve

Average Total Cost (ATC)

The cost per unit of output, calculated by dividing the total cost by the quantity produced ($TC / Q$)

Average Variable Cost (AVC)

The variable cost per unit of output, found by dividing total variable cost by quantity ($TVC / Q$)

Average Fixed Cost (AFC)

The fixed cost per unit of output ($TFC / Q$), which continuously declines as a firm produces more units

The MC and Average Relationship

The Marginal Cost curve always intersects the ATC and AVC curves at their absolute minimum points; if MC is below the average, the average falls, and if MC is above, the average rises

The Productivity-Cost Inverse

The rule stating that productivity and costs move in opposite directions; high productivity (high MP) results in low marginal costs, while low productivity results in high costs

Productive Efficiency

The "sweet spot" in the short run where a firm produces at the quantity that minimizes Average Total Cost

The Long Run

A planning period where all factors of production are variable, allowing a firm to build larger factories or change its technology

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*Analogy to Solidify Understanding:*

Managing a firm's production and costs is like *loading a moving truck: the first few friends you hire help immensely because they can form a "human chain" (specialization and increasing returns*)

Eventually, if you hire too many people for the same size truck (*the fixed factor), they start bumping into each other and the loading process slows down (diminishing returns*)

To become more efficient in the long run, you don't just add more people

you *rent a larger truck* so that everyone has enough space to work effectively again