Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run...
-
Upload
robert-ward -
Category
Documents
-
view
218 -
download
0
Transcript of Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run...
![Page 1: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/1.jpg)
Principles of Economics
Session 5
![Page 2: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/2.jpg)
Topics To Be Covered
Categories of CostsCosts in the Short RunCosts in the Long RunEconomies of Scope
![Page 3: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/3.jpg)
The Firm’s Objective
The economic goal of the firm is to maximize profits.
![Page 4: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/4.jpg)
A Firm’s Profit
Profit is the firm’s total revenue minus its total cost.
Profit = Total revenue - Total cost
![Page 5: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/5.jpg)
Costs as Opportunity Costs
A firm’s cost of production includes all the opportunity costs of making its output of
goods and services.
![Page 6: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/6.jpg)
Opportunity Cost
The value of the next best use for an economic good, or the value of the sacrificed alternative.
![Page 7: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/7.jpg)
Explicit and Implicit Costs
A firm’s cost of production include explicit costs and implicit costs.
Explicit costs involve a direct money outlay for factors of production. Implicit costs, also called normal profit, refer to the opportunity cost of using the owner’s own resources.
![Page 8: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/8.jpg)
Economic Profit versus Accounting Profit
Economists measure a firm’s economic profit as total revenue minus all the opportunity costs (explicit and implicit).
Accountants measure the accounting profit as the firm’s total revenue minus only the firm’s explicit costs. In other words, they ignore the implicit costs.
![Page 9: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/9.jpg)
Economic Profit versus Accounting Profit
When total revenue exceeds both explicit and implicit costs, the firm earns economic profit.
Economic profit is smaller than accounting profit.
![Page 10: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/10.jpg)
Economic Profit versus Accounting Profit
RevenueTotalopportunitycosts
How an EconomistViews a Firm
Explicitcosts
Economicprofit
Implicitcosts
Explicitcosts
Accountingprofit
How an AccountantViews a Firm
Revenue
![Page 11: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/11.jpg)
Total Cost of Production
Total cost of production may be divided into fixed costs and variable costs.
![Page 12: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/12.jpg)
Fixed and Variable Costs
Fixed costs are those costs that do not vary with the quantity of output produced.
Variable costs are those costs that do change as the firm alters the quantity of output produced.
![Page 13: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/13.jpg)
Family of Total Costs
TC = Total Costs
TFC=Total Fixed Costs
TVC=Total Variable Costs
TVCTFCTC
![Page 14: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/14.jpg)
Fixed CostCost paid by a firm that is in business regardless of the level of output
Sunk CostCost that have been incurred and cannot be recoverede.g. advertising expenditure
Fixed Cost vs. Sunk Cost
![Page 15: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/15.jpg)
Personal Computers: most costs are variablee.g. components, labor
Software: most costs are sunke.g. cost of developing the software
Variable Cost and Sunk Cost
![Page 16: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/16.jpg)
Total CostOutput(Units)
Fixed Cost ($)
Variable Cost ($)
Total Cost ($)
0 50 0 501 50 50 1002 50 78 1283 50 98 1484 50 112 1625 50 130 1806 50 150 2007 50 175 2258 50 204 2549 50 242 292
10 50 300 35011 50 385 435
![Page 17: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/17.jpg)
Total Cost Curves
Output
Cost($ peryear)
100
200
300
400
0 1 2 3 4 5 6 7 8 9 10 11 12 13
TVC
Variable cost increases with
production and the rate varies with
increasing & decreasing returns.
TC
Total costis the vertical
sum of FC and VC.
TFC50
Fixed cost does notvary with output
![Page 18: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/18.jpg)
Average Costs
The average cost is the cost of each typical unit of product.
Average costs can be determined by dividing the firm’s costs by the quantity of output produced.
![Page 19: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/19.jpg)
Family of Average Costs
ATC=Average Total Costs
AFC=Average Fixed Costs
AVC=Average Variable Costs
AVCAFCATC
![Page 20: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/20.jpg)
Family of Average Costs
Q
TC=
Quantity
cost Total=ATC
Q
TVC=
Quantity
costVariable =AVC
Q
TFC=
Quantity
cost Fixed=AFC
![Page 21: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/21.jpg)
Average CostsOutput(Units)
TFC ($)
TVC ($)
TC($)
AFC($)
AVC($)
ATC($)
0 50 0 50 -- -- --1 50 50 100 50 50 1002 50 78 128 25 39 643 50 98 148 16.7 32.7 49.34 50 112 162 12.5 28 40.55 50 130 180 10 26 366 50 150 200 8.3 25 33.37 50 175 225 7.1 25 32.18 50 204 254 6.3 25.5 31.89 50 242 292 5.6 26.9 32.4
10 50 300 350 5 30 3511 50 385 435 4.5 35 39.5
![Page 22: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/22.jpg)
Average Cost Curves
Output (units/yr.)
Cost($ per
unit)
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
ATC
AVC
AFC
![Page 23: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/23.jpg)
U-Shaped ATC and AVC Curves
The ATC curve is U-shaped. At very low levels of output average total cost
is high because fixed cost is spread over only a few units.
Average total cost declines as output increases. Average total cost starts rising because
average variable cost rises substantially.The AVC curve is also U-shaped for its
relationship with the ATC curve.
![Page 24: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/24.jpg)
Marginal Cost
Marginal Cost (MC) is the cost of expanding output by one unit. Since
fixed cost have no impact on marginal cost, it can be written as:
Q
TC
Q
VCMC
![Page 25: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/25.jpg)
Marginal CostOutput(Units)
TFC ($)
TVC ($)
TC($)
AFC($)
AVC($)
ATC($)
MC($)
0 50 0 50 -- -- -- --1 50 50 100 50 50 100 502 50 78 128 25 39 64 283 50 98 148 16.7 32.7 49.3 204 50 112 162 12.5 28 40.5 145 50 130 180 10 26 36 186 50 150 200 8.3 25 33.3 207 50 175 225 7.1 25 32.1 258 50 204 254 6.3 25.5 31.8 299 50 242 292 5.6 26.9 32.4 38
10 50 300 350 5 30 35 58
11 50 385 435 4.5 35 39.5 85
![Page 26: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/26.jpg)
Marginal Cost Curve
Output (units/yr.)
Cost($ per
unit)
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
MC
![Page 27: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/27.jpg)
Cost Curves for a Firm
Output (units/yr.)
Cost($ per
unit)
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
MC
ATC
AVC
AFC
![Page 28: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/28.jpg)
From TC to AC and MC
P
Q
100
200
300
400
0 1 2 3 4 5 6 7 8 9 10 11 12 13
TFC
TVC
A
TC
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
MC
ATC
AVC
AFC
B
A'
B'
AFC= slope of line from origin to a point on TFCAVC = slope of line from origin to a point on TVCATC = slope of line from origin to a point on TCMC = slope of tangent to a point on TC or TVC
P
Q
![Page 29: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/29.jpg)
Properties of Cost Curves
AFC falls continuously When MC < AVC or
MC < ATC, AVC and ATC decrease
When MC > AVC or MC > ATC, AVC and ATC increase
Output (units/yr.)
Cost($ per
unit)
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
MC
ATC
AVC
AFC
![Page 30: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/30.jpg)
Properties of Cost Curves
MC crosses AVC and ATC at the minimums of AVC and ATC, respectively.
Minimum AVC occurs at a lower output than minimum ATC
Output (units/yr.)
Cost($ per
unit)
25
50
75
100
0 1 2 3 4 5 6 7 8 9 10 11
MC
ATC
AVC
AFC
![Page 31: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/31.jpg)
Costs in the Long Run
For many firms, the division of total costs between fixed and variable costs depends on the time horizon being considered.
In the short run some costs are fixed. In the long run fixed costs become variable
costs.
![Page 32: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/32.jpg)
Costs in the Long Run
Because many costs are fixed in the short run but variable in the long run, a firm’s long-run cost curves differ from its short-run cost curves.
![Page 33: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/33.jpg)
If LMC < LAC, LAC will fall
If LMC > LAC, LAC will rise
LMC = LAC at the minimum of LAC
Long-Run Average and Marginal Cost
![Page 34: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/34.jpg)
Long-Run Average and Marginal Cost
Output
Cost($ per unitof output
LAC
LMC
A
![Page 35: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/35.jpg)
Average Total Cost in the Short and Long Runs
Quantity ofCars per Day
0
AverageTotalCost
ATC in shortrun with
small factory
ATC in shortrun with
medium factory
ATC in shortrun with
large factory
ATC in long run
![Page 36: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/36.jpg)
The optimal plant size will depend on the anticipated output.
Firms can change scale to change output in the long-run.
The long-run average cost curve is the envelope of the firm’s short-run average cost curves.
Long-Run Costs andReturns to Scale
![Page 37: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/37.jpg)
Long-Run Cost with Economiesand Diseconomies of Scale
Output
Cost($ per unitof output
SMC1
SAC1
SAC2
SMC2LMC If the output is Q1 a manager
would choose the small plantSAC1 and SAC $8.
$10
Q1
$8B
A
LAC SAC3
SMC3
![Page 38: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/38.jpg)
Economies and Diseconomies of Scale
Economies of scale occur when long-run average total cost declines as output increases.
Diseconomies of scale occur when long-run average total cost rises as output increases.
Constant returns to scale occur when long-run average total cost does not vary as output increases.
![Page 39: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/39.jpg)
Economies and Diseconomies of Scale
Diseconomies
of scale
Quantity ofCars per Day
0
AverageTotalCost
ATC in long run
Economies
of scale
Constant Returnsto scale
![Page 40: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/40.jpg)
Economies of scope exist when the joint output of a single firm is greater than the output that could be achieved by two different firms each producing a single output.
Chicken farm—poultry and eggsAutomobile company—cars and trucksUniversity—Teaching and research
Economies of Scope
![Page 41: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/41.jpg)
Both use similar, relative, and even the same capital and labor.
The firms share management resources.
The production of one good results in the production of another good at little or no extra cost.
Advantages of Economiesof Scope
![Page 42: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/42.jpg)
C(Q1)= cost of producing Q1
C(Q2)=cost of producing Q2
C(Q1Q2)=joint cost of producing both products
)(
)()()C( SC
2,1
2,121
QQC
QQCQCQ
Measuring Degree of Economies of Scope
If SC > 0 — Economies of scope
If SC < 0 — Diseconomies of scope
![Page 43: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/43.jpg)
There is no direct relationship between economies of scope and economies of scale.
A firm may experience economies of scope and diseconomies of scale
A firm may have economies of scale and not have economies of scope
Economies of Scope vs.Economies of Scale
![Page 44: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/44.jpg)
Assignment
Review Chapter 7Answer questions on P130Preview Chapter 8
![Page 45: Principles of Economics Session 5. Topics To Be Covered Categories of Costs Costs in the Short Run Costs in the Long Run Economies of Scope.](https://reader035.fdocuments.in/reader035/viewer/2022062321/56649e5f5503460f94b58d7b/html5/thumbnails/45.jpg)
Thanks