production and cost

profit

the difference between revenue and cost

total revenu

the total value of sales (P x Q)

average revenue

the amount of TR earned by each unit (TR/Q)

marginal revenue

the additional revenue earned from selling one additional unit

MR =

change in TR/change in Q

long run

all the inputs are available

short run

the period during which at least one of the inputs is fixed

what does it mean if a firm is in a long run

a firm can change plant size, relocate, invest in more machinery

explicit costs

monetary payments or cash expenditure

implicit costs

the opportunity costs that are not reflected in monetary payments

total profit

the difference between total revenue and total explicit costs

normal profit

the best return that the firm’s resources could earn elsewhere

economic profit (or loss)

the difference between total revenue and total economic costs

economic profit =

TR - explicit cost - implicit cost

accounting profit

TR - explicit cost

how is cost determined

by the prices and productivity of inputs used in production

inputs

factors of production

outputs

the objects that provide us utility

what are the core assumptions of analysing production in the short run

1. the firm produces only one product

2. inputs are homogenous

3. the inputs can be used ini infinitely divisible amounts

4. the technological relationship between inputs and outputs is given and cannot be changed

5. the prices of the product and of the inputs are given

6. the firm uses fixed inputs and one variable input

production function

the relationship by which inputs are combined with outputs

total product

the maximum output that can be produced given the inputs and current technology

what happens when labour increases for total product curve

• total product increases from zero at an increasing rate

• it then increases at a decreasing rate until a maximum point

• after which TP declines

when does law of diminishing returns set in

• at the point of inflection (TP curve)

• marginal product at its maximum

marginal product

the number of additional units of output produced by adding one additional unit of the variable input

MP =

change in TP/change in Q

average product

the average number of units of outputs produced per unit of the variable input

AP =

TP/Q

explain the relationship between TP,AP and MP

• TP increases at an increasing rate, then increasing at a diminishing rate and then declines

• as more variable input is combined with one or more fixed inputs, eventually marginal product, average product and total product will state to decline in that order

what happens as the variable input increases

average product and marginal product increase, reach a maximum and then decrease

when is average product increasing

when marginal product is above average product

when does average product reach a maximum

when AP = MP

when is average product decreasing

when marginal product is below average product

fixed cost

cost that remains constant irrespective of the quantity of output produced

variable cost

the cost of the firms’ variable input(s) which changes when total product changes

how do you analyse a firms’s output decisions

average cost and marginal cost

total cost

the cost of producing a certain quantity of the firm’s output or proudct

average cost

the total cost divided by the number of units produced

AC =

TC/TP

AFC

TFC/Q

AVC =

TVC/TP

ATC/AC =

• AFC + ATC

• TC/Q

marginal cost

the additional cost that is required to produce one additional unit of output

MC

change in TC/change in TP

ATC always lies…

above AFC and ATC

what is the vertical distance between AC and AVC

AFC

what happens when AFC declines

the vertical distance between AC and AVC becomes smaller

when does MC = AVC and MC=AC

at their respective minimums

when is AC decreasing

when MC is above AC

when is AC increasing

when MC is above AC

when is AC unchanged

when MC=AC

what relationship does marginal cost and marginal product have

an inverse relationship

what relationship does average cost and average product have

an inverse relationship

returns to scale

measured by varying all the inputs by some percentage and comparing this w/ the resulting percentage change in production

constant returns to scale

% increase in puts is equal to % increase in outputs

increasing returns to scale

% increase in inputs is smaller than % increase in outputs

decreasing returns to scale

% increase in inputs is larger than % increase in outputs (long run)

economies of scale

this is when the cost per unit output decreases as production increases

why does economies of scale occur

increasing returns to sclae because firms can now produce more efficiently than smaller firms

diseconomies of scale

when unit increases as output increases

define the law of diminishing returns

as successive units of a variable resource are added to a fixed resource, beyond some extra, or marginal product that can be attributed to each additional unit of the variable resource decline