3.3.2 - Costs

Question 1

What Does The Law Of Diminishing Returns State?

Answer 1

In the SR, when variable FOPs (Labour) are added to a stock of fixed FOPs (Capital), TP/MP will initially rise and then fall.

Question 2

What Is Marginal Product (MP) & How Do You Calculate It?
(2 Points)

Answer 2

~ The change in output, resulting from adding an additional unit of labour.

~ ∆TP / ∆Ql. (Ql = Quantity of labour).

Question 3

How Do You Calculate Average Product (AP)?

Answer 3

TP / Ql.

Question 4

Draw & Explain The Diagram That Illustrates The Law Of Diminishing Marginal Returns
(6 Points)

Answer 4

~ MP must intersect AP at its highest point.

~ When first few workers are employed, each additional worker is bringing more output than the last, increasing MP.

~ 1) We are seeing increasing return to labour, as labour productivity is increasing due to specialisation and underutilisation of fixed FOPs as there are extra capital due to less workers.

~ When another worker is employed, MP begins to fall as the law of diminishing returns begins.

~ 2) Labour productivity begins to decreases, as fixed FOPs become a constraint on production, there is not enough fixed FOPs to handle that amount of workers.

~ TP is maximised when MP=0, after MP=0 TP begins to decrease and before MP=0 each extra worker hired will bring more output so TP keeps increasing. So TP would be maximised when there is MP left.

Question 5

What Is The SR For A Business?

Answer 5

Period of time when there is at least one fixed FOP.

Question 6

What Is The LR For A Business?

Answer 6

All FOPs are variable.

Question 7

What Are The 2 Groups Of Costs?

Answer 7

~ Explicit costs.

~ Implicit costs.

Question 8

What Are Explicit Costs?

Answer 8

Require actual payment.

Question 9

What Are Implicit Costs?

Answer 9

Just a businesses opportunity cost.

Question 10

What Are The 2 Explicit Costs?

Answer 10

~ Fixed costs.

~ Variable costs.

Question 11

What Are Fixed Costs?

Answer 11

Are costs that do not vary with output.

Question 12

What Are Examples Of Fixed Costs?
(5 Points)

Answer 12

~ Rent.

~ Salaries.

~ Interest on loans.

~ Advertising.

~ Tax.

Question 13

What Are Variable Costs?

Answer 13

Are costs that do vary with output.

Question 14

What Are Examples Of Variable Costs?
(4 Points)

Answer 14

~ Wages.

~ Utility bills.

~ Raw material costs.

~ Transport costs.

Question 15

What Is Total Fixed Cost (TFC), What Is Its Formula & What Does It Look Like On A Graph?
(3 Points)

Answer 15

~ Costs that do not change with output and remain constant.

~ Total Cost (TC) - Total Variable Cost (TVC).

~ Not influenced by the law of diminishing returns.

Question 16

What Is Average Fixed Cost (AFC) Formula & What Does It Look Like On A Graph?
(2 Points)

Answer 16

~ Total Fixed Costs (TFC) / Output.

~ Not influenced by the law of diminishing
returns.

Question 17

What Is Average Variable Cost (AVC) Formula & What Does It Look Like On A Graph?
(2 Points)

Answer 17

~ Total Variable Cost (TVC) / Output.

~ Influenced by the law of diminishing returns.

Question 18

What Reduces Average Variable Cost (AVC)?

Answer 18

MP and labour productivity increasing.

Question 19

What Increases Average Variable Cost (AVC)?

Answer 19

When MP and labour productivity fall.

Question 20

What Determines The Shape of The Average Cost (AC) & Marginal (MC) Cost Curve For A Firm Operating In The SR?

Answer 20

Law of diminishing returns.

Question 21

What Is The Formula For Average Cost (AC / ATC)?

Answer 21

Total Cost (TC) / Quantity.

Question 22

What Is Marginal Cost (MC) & Its Formula?
(2 Points)

Answer 22

~ Is the extra cost, when one more unit of output is produced.

~ ∆TC / ∆Q.

Question 23

What Is The AC & MC Curve & Describe Them?
(3 Points)

Answer 23

~ Determined by the law of diminishing returns.

~ 1) Increasing labour productivity and MP, due to specialisation between workers and underutilisation of fixed FOPs, decreasing MC.

~ 2) Law of diminishing returns begins to kick in, labour productivity and MP decreases as fixed FOPs become a constraint on production, increasing MC.

Question 24

What Are The Total Variable Cost (TVM) & Total Cost (TC) Curve Determined By?

Answer 24

Influenced by the law of diminishing returns.

Question 25

What Is Total Cost (TC) & How Do You Calculate It?
(2 Points)

Answer 25

~ Cost of producing a given level of output.

~ TFC + TVC.

Question 26

What Is Total Variable Cost (TVM) & How Do We Calculate It?
(2 Points)

Answer 26

~ Costs that change directly with output.

~ VC x Q.

Question 27

What Does The Total Variable Cost (TVM) & The Total Cost (TC) Curve Look Like In The SR?
(3 Points)

Answer 27

~ When the TVC curve gets a bit flat, we are seeing the productivity gains as output is increasing much greater than costs.

~ When the TVC curve becomes more curvy after the flatter part we are seeing diminishing returns, as there is an over utilisation of capital, the fixed FOPs become a constraint on production. And cost begin to increase quicker than output.

~ TC reflect the constant nature of TFC.

Question 28

What Is Returns To Scale?

Answer 28

The change in output when a business increases its FOPs, once it has scaled up.

Question 29

What Determines The Shape Of The LRAC Curve?

Answer 29

Returns to scale (EOS + DEOS).

Question 30

What Does The LRAC Curve Look Like, Explain It

Answer 30

~ Determined by returns to scale.

1) Increasing returns to scale.
~ Occur when the % change of output is greater than the % change of inputs.

~ Costs are rising, but output is rising faster, decreasing AC.

2) Constant returns to scale.
~ % change in output is = to the % change in input.

3) Decreasing returns to scale.
~ % change of output is less than the % chance of inputs.

~ Quantity is rising, but slower than the increasing costs, increasing AC.

Question 31

What Is The MES?
(2 Points)

Answer 31

~ Lowest level of output required to exploit full EOS.

~ After this quantity costs cannot get any lower than this, good knowledge for a business.