2.4: Cost functions Flashcards
Define total cost function?
Function that gives the minimum cost incurred by the firm to produce any output level, with given input prices
See bottom of page 3 notes cost functions
now
Draw diagrams for average fixed costs and average variable costs (SR)
Now (see notes)
Combination of these shows how you get the shape of the normal AC curve
See
example slide 102
What does the area under the MC curve give?
The variable costs
How are AC and MC related?
If AC>MC, AC must be falling and vice verse
What shape are input cost curves and why?
Concave (diminishing)
Cost function for an input increases less than proportionately since the firm can substitute it with other inputs when its’ price rises
2 factors that shift the cost curves?
Changes in technology
Changes in input prices
Note
The increase in TC when one input rises in price is dependent on the relative significance of the input, and how easily ti can be substituted by another input
TF change in price of an input leads to a change in firms input mix
See
Input substitution bottom of page 3 2nd side
WRT input substitution, what do large s values imply?
That firms change the mix of inputs lots when prices change (since inputs are close substitutes) tf total costs won’t change too much
WRT short term costs what do you normally assume? What does this result in?
That capital is fixed and labour is variable
In SR, fixed input levels are fixed tf to vary output the firm must use non-optimal input combinations tf TRS not equal to ratio of input prices
Explains why SR costs are higher than LR costs
When does SR cost of producing = LR cost of producing?
When level of fixed k in SR=optimal level of k in LR
What does the LRTC curve represent?
The minimum points of all SR cost curves at different levels of fixed input k (see notes and diagrams)
Draw SRAC and LRAC curves diagram
Now
SRAC curves must be tangent to LRAC curve
