3.3.2 Costs

Question 1

Short run

Answer 1

The period in which a firm in unable to vary the input of at least one of its factors, while being able to change all of the other
- at least one factor of production is fixed
- fixed and variable costs

Question 2

Long run

Answer 2

All inputs can be varied
- all factors of production are variable
- only variable costs

Question 3

Fixed cost

Answer 3

Independent of output level
- e.g ads, rent

Question 4

Variable costs

Answer 4

Depend on the level of output
- e.g staff

Question 5

Total cost (short run) definition

Answer 5

Total cost to produce a given level of output (an increase in output = increase in total costs

Question 6

Total cost formula

Answer 6

Total cost = total fixed cost + total variable cost

Question 7

Total variable cost

Answer 7

In the long run, all factors input can change meaning all costs are variable (change with output)
- e.g staff

Question 8

Total fixed cost

Answer 8

In the short run, at least one factor of production cannot change meaning there are some fixed costs (do not vary with output)

Question 9

Average price level

Answer 9

The output of producing at an extra unit of cost

Question 10

Marginal cost (short run)

Answer 10

Additional cost of producing one extra unit of output (once MC gets too high, the MPL is diminishing)

Question 11

Marginal cost formula

Answer 11

∆TC/∆Q (new total cost- old total cost/new quantity-old quantity)

Question 12

Average total cost (short)

Answer 12

Total cost ÷ quantity of output produced (TC/Q)

Question 13

Average variable cost

Answer 13

Variable cost ÷ quantity of output (VC/Q)

Question 14

Average fixed cost

Answer 14

Fixed cost ÷ quantity of output (FC/Q)

Question 15

Short run cost curves diagram

Question 16

Relationship between marginal cost & average variable cost & short run average total cost

Answer 16

• SAVC curve falls when the short run marginal cost curve is below it & rises when the short run marginal cost curve is above it
• thus, the two curves cross at the lowest point on the average cost curve

Question 17

Short run cost curves explanation

Answer 17

• Looking at the MC curve (this is the increase in total cost, variable cost, when output increases by a unit)
• to produce an additional unit of output requires labour input. Thus labour demand is a derived demand
• Labour is a variable factor & combined with capital, which is a fixed factor in the short-run, produces output

Question 18

Marginal product of labour

Answer 18

company’s increase in total production when one additional unit of labor is added

Question 19

Marginal product of labour formula

Answer 19

∆Q/∆L

Question 20

Average product of labour

Answer 20

(The labour needed to product an extra unit of output) measure of how much each worker produces, on average. You simply divide total product by the number of employees.

Question 21

Average product of labour formula

Answer 21

Q/L

Question 22

Diminishing marginal product of labour/productivity graph

Question 23

Diminishing marginal product of labour/productivity

Answer 23

• adding more units of a variable input to a fixed input, increase output at first. But after a certain no. Inputs are added, the marginal increase of output remains constant
• then when there is an even greater input, the marginal increase in output starts to fall

Question 24

Diminishing marginal product of labour example

Answer 24

Adding more workers
- marginal product increases without the first few additions of workers (specialisation). Workers are more efficient when they specialise in production & work together to produce a good
- eventually MP decreases (law of diminishing returns. At some point, each additional worker contributes less output than the worker before

Question 25

Why does diminishing marginal product of labour happen?

Answer 25

Production can lead to bottlenecks because capital is fixed- workers are waiting for machinery to become open

Question 26

How can MP be negative?

Answer 26

**Capital is fixed in the short run**. If more and more workers keep getting added, they will get in each other’s way & actually cause output to fall

Question 27

Total product curve graph

Question 28

Total product curve

Answer 28

- As unit of output increases by one, less labour is needed up to a certain point - If **output is fixed**, but **labour is decreasing**, then firms can pay **less wage for labour = less cost needed = higher profit** - If **marginal product is diminishing an increasingly larger amount of labour is required** for each additional unit of output

Question 29

Example of total product curve

Answer 29

If wage rate is fixed: MC = wage rate ÷ MPL - MC falls if MPL is increasing & increases if MPL is falling -

Question 30

Short run cost curves with diminishing marginal product

Answer 30

- **MC, ATC and AVC** rise with **diminishing returns**. AFC falls with increased output - Highlighted are the points in which DMP sets in. Before this, AC is creasing. After AC is increasing

Question 31

Long run cost curves graph

Question 32

Long run cost curve explanation

Answer 32

- **LRAC curve falls when the LMC curve is below it** & rises when the LMC is above it - Thus two curve **cross at the lowest point** on the AC curve - If **fixed costs are high**, **AC decreases as output increases** - When diseconomies of scale set in, AC increases (long run)

Question 33

Relationship between SRAC and LRAC graph

Question 34

Relationship between SRAC and LRAC

Answer 34

- LRAC curve envelopes the SRAC curve & is always equal to or below the SRAC - **LRAC shifts** when there are **external economies of scale** (e.g industry growing) - **SRAC falls** at first, then **rises due to diminishing returns** - If SRAC = LRAC, the firm operates where it can **vary all factor inputs**

Question 35

Returns to scale and LAC

Answer 35

Returns to scale can determine the LAC shape

Question 36

Returns to scale (LAC) graph

Question 37

Returns to scale example

Question 38

Increased economies of scale…

Answer 38

…(due to increased output) increased research and development, increased quality, decreased price = increased consumer surplus

Question 39

Marginal cost

Answer 39

- the increase in total cost, variable cost, when output increases by a unit

Question 40

A firm which prints greetings card records its short run costs. It observes that the average cost per card decreases s more are produced, although the marginal cost is rising. It follows that…

Answer 40

Marginal costs are below average costs

Question 41

Suppose that your firm operates on the rising segment of its long-run average total cost curve. in order to produce output at a lower average cost you must

Answer 41

Reduce output and build a smaller plant

Question 42

If a firm is producing at the lowest point of ATC, to be productively efficient…

Answer 42

The firm should increase its level of output

Question 43

What happens to the graph when there’s a change in fixed costs?

Answer 43

AC curve moves

Question 44

What curve does fixed costs shift?

Answer 44

AC curve

Question 45

What curve does variable costs shift?

Answer 45

AC and revenue