Microeconomics Chapter 9: Businesses and the Costs of Production

Economic cost

The payment that must be made to obtain and retain the services of a resource

Explicit costs

Monetary outlay

Implicit costs

Opportunity cost of using self-owned resources

Includes a normal profit

Accounting profit

= Revenue - explicit costs

Economic profit

= Accounting profit - implicit costs

(Similarly… revenue - economic costs [explicit + implicit])

Short run

Some variable inputs

FIXED plant

Long run

All inputs are variable

Nothing fixed (can adjust plant size + enter/exit industry)

Marginal product

Change in total product ÷ change in labor input

Average product

Total product ÷. Units of labor

Law of diminishing returns

• Resources are of equal quality.

• Technology is fixed.

• Variable resources are added to fixed resources.

• At some point, marginal product will fall.

Rationale

Fixed costs (TFC)

Costs that do not vary with output

Variable costs (TVC)

Costs that do vary with output

TC = TFC + TVC

Total cost

Average fixed cost (AFC)

AFC = TFC/Q

Average variable cost (AVC)

AVC = TVC/Q

Average total cost

ATC = TC/Q

Marginal cost

MC = ΔTC/ΔQ

Variable

All costs are _____ in the long run

Long run cost curve

Full of troughs

Economies of scale

• Labor specialization

• Managerial specialization

• Efficient capital

• Other factors

Constant returns to scale

ISSUES WITH SMALLER SCALE PRODUCTION

Diseconomies of scale

Control and coordination problems

• Communication problems

• Worker alienation

• Shirking

ISSUES WITH LARGER SCALE PRODUCTION

Minimum efficient scale

Lowest level of output at which long-run average

costs are minimized.

• Can determine the structure of the industry.

(What can be sustained?)