4- Costs

Question 1

Total cost definition

Answer 1

The sum of all costs that a firm faces.

Fixed costs + variable costs

Question 2

Average cost definition

Answer 2

Total cost / quantity produced

Question 3

Fixed cost

Answer 3

A cost which does not vary with the volume of production.

Question 4

Examples of fixed costs

Answer 4

• Rent payments
• Insurance
• Interest payments
• Certain salaries

Question 5

Variable cost

Answer 5

A business’ costs associated with the number of goods and services it produces.

Question 6

Examples of variable costs

Answer 6

• Wages
• Costs of raw materials
• Inputs to production
• Commission

Question 7

Marginal cost definition

Answer 7

The cost added by producing one additional unit of a product or service.

Question 8

Marginal cost equation

Answer 8

Change in cost/ change in revenue

Question 9

The law of diminishing returns

Answer 9

As more of a variable factor is added to a fixed factor, the increase in output (or marginal product) eventually falls. Only operates in the short run.

Question 10

Marginal product definition

Answer 10

The extra output when one more factor of output is added.

Question 11

Fixed factor definition

Answer 11

The factor of production, which cannot be changed in the short run.

Question 12

Economies of scale

Answer 12

Occur when the average costs per unit of output decrease with the increase in the scale of the output being produced by a firm in the long run. Occurs only in the long run.

Question 13

Types of economies of scale?

Answer 13

• Managerial economies
• Financial economies
• Commercial economies
• Technical economies
• Marketing economies

Question 14

What are managerial economies of scale?

Answer 14

When larger firms can appoint better managers which usually means better management, higher profits and longer term sustainability.

Question 15

What are financial economies of scale?`

Answer 15

Large firms have more access to credit and at lower prices. Large firms can also issue shares on the stock market and do deals with lenders to borrow at cheaper rates. This is because large firms have of collateral so are seen as a safer bet ( they have more assets to pay off debt if their payments dry up).

Question 16

What are commercial economies of scale?

Answer 16

Large firms can bulk-buy from their suppliers because they buy a large amount at a steady rate they are likely to get better deals.

Question 17

What are technical economies of scale?

Answer 17

Larger scale production can increase can produce more e.g. a larger lorry can carry more.

Question 18

What are marketing economies of scale?

Answer 18

As a firm grows bigger, the cost of advertising is spread out over a large number of potential customers.

Question 19

Diseconomies of scale

Answer 19

Occur when the average unit costs of production increase beyond a certain level of output.

Question 20

What is the minimum efficient scale?

Answer 20

A concept which applies to firms with very high fixed costs, which find that costs fall very rapidly as output begins, as costs are being spread out. The point where the average costs are at a minimum.

Question 21

Reasons for diseconomies of scale?

Answer 21

• Unwieldiness- Large firms can become difficult to manage in different countries with different cultures, decisions may take longer to implement and the person making the decision may not have the knowledge of the outcome.
• Slowness- takes large firms a long time to respond in many cases
• X-inefficiency- lack of competition may mean costs are allowed to rise.
• Communication- workers may face delays with tasks with lots of meetings, emails.
• Lack of engagement- in large firms the management may become very distant from workers. Workers may become less loyal to management. Could lead to more days sick, more inefficiency and no concern on how it impacts profit.

Question 22

External economies of scale?

Answer 22

External economies of scale are business-enhancing factors that occur outside a company but within the same industry.
E.g. faster transport, connection, all lower LRAC curve

Question 23

External diseconomies of scale?

Answer 23

External diseconomies of scale occur when an industry growing in size causes negative externalities – and rising long-run average costs.
E.g. high cost of rent when lots of financial firms want to be based in the city.
High traffic congestion

Question 24

What is the difference between internal and external economies of scale?

Answer 24

Internal economies of scale is when firms get bigger, and external is when the industry gets bigger.

Question 25

Land definition

Answer 25

Natural resources available for production.

Question 26

Labour definition

Answer 26

Human input in production process

Question 27

Capital definition

Answer 27

Man-made aids to production that labour utilise to make goods and services.

Question 28

Enterprise definition

Answer 28

Entrepreneurs organise factors of production and take risks.

Question 29

Average product equation

Answer 29

Total output/ no. of workers

Question 30

Semi-variable costs definition

Answer 30

A cost that has both a fixed and variable element e.g. a utility bill often has a fixed element for the connection and variable cost depending on how much is used.

Question 31

Diminishing marginal productivity

Answer 31

Advantages gained from slight improvement on the input side of production equation will only advance marginally per unit and may level off or even decrease at a specific point.