7.4 Costs in the Short Run Flashcards
What are the different types of short-run costs?
Total Cost (TC)
Total Fixed Costs (TFC)
Total Variable Cost (TVC)
Average Total Cost (ATC)
Average Fixed Cost (AFC)
Average Variable Cost (AVC)
Marginal Cost (MC)
What is total cost (TC)
total cost (TC) The total cost of producing any given level of output; it can be divided into total fixed cost and total variable cost.
Total cost is the sum of all costs that the firm incurs to produce a given level of output.
TC=TFC+TVC
What is Total Fixed Cost (TFC)?
All costs of production that do not vary with the level of output.
Total fixed cost is the cost of the fixed factor(s). This does not vary with the level of output; it is the same whether output is 1 unit or 1000 units. Total fixed cost is also referred to as overhead cost. An example of a fixed cost is the annual cost associated with renting a factory (or servicing the debt incurred to build a factory). Whether the level of output increases or decreases, this annual fixed cost does not change.
What is total variable cost? (TVC)
Total costs of production that vary directly with the level of output.
Total variable cost is the cost of the variable factors. It varies directly with the level of output—that is, it rises when output rises and it falls when output falls. Examples of variable costs are the cost of labour and intermediate inputs that are used to produce output. As the level of output increases or decreases, the amount of labour and intermediate inputs required for production changes in the same direction.
What is Average total Cost? (ATC)
Total cost of producing a given output divided by the number of units of output; it can also be calculated as the sum of average fixed costs and average variable costs. Also called unit cost or average cost.
We let Q be the total units of output (what we earlier referred to as total product, TP). Since total cost is split into fixed and variable costs, we can also divide average total cost into its fixed and variable components:
ATC=TC/Q
ATC=AFC+AVC
What is Average Fixed Cost (AFC)
Total fixed cost divided by the number of units of output tells us the average fixed cost per unit of output. Average fixed cost declines continually as output increases because the amount of the fixed cost attributed to each unit of output falls. This is known as spreading overhead.
AFC=TFC/Q
What is the Average variabe cost?
Total variable cost divided by the number of units of output tells us the average variable cost per unit of output. For reasons that we will soon see, average variable cost first declines as output rises, reaches a minimum, and then increases as output continues to rise.
AVC=TVC/Q
What is the Marginal Cost (MC)?
The increase in total cost resulting from a one-unit increase in the level of output is called marginal cost. (Marginal costs are always marginal variable costs because fixed costs do not change as output varies.) Marginal cost is calculated as the change in total cost divided by the change in output that brought it about: [16]
MC=ΔTC/ΔQ
Why are the cost curves U-Shaped?
Short-run average total cost curves are often U-shaped because average product increases at low levels of output but eventually declines sufficiently to offset advantages of spreading overheads.
What is the capaticy of a firm?
The level of output that corresponds to the minimum short-run average total cost is often called the capacity of the firm. When used in this sense, capacity is the largest output that can be produced without encountering rising average costs per unit.
What is excess capacity?
A firm that is producing at an output less than the point of minimum average total cost is said to have excess capacity.
Remember that a firm’s short-run cost curves are drawn holding two things constant…
First, the amount of the fixed factor used by the firm is held constant (indeed, it is the existence of such a fixed factor that ensures we are in the short run). Second, factor prices—the price per unit of labour and the price per unit of capital—are held constant.
What does a change in the price of a variable factor do?
A change in the price of a variable factor shifts the average total cost curve and the marginal cost curve.
What happens to the firm’s production costs if it increases the size of its factory?
There are two effects from such a change. First, once the larger factory is in place, the firm’s total fixed costs have increased. Second, the increase in the size of the factory means that labour and other variable factors now have more (or better) physical capital with which to work, and this generally increases their average and marginal product, and thus reduces marginal and average costs (at any given level of output).
What is the combined effect of these two forces?
(labour and other variable factors now have more (or better) physical capital with which to work,)
(firm’s total fixed costs have increased)
The overall effect on the ATC curve is difficult to predict without having more information about the firm’s technology. It depends on how much the firm’s output rises when it increases its use of all factors. In other words, we need to have more detailed information about the firm’s production function before we know how a change in the firm’s plant size will affect its ATC curve.
