Chapter 2: Book Outline Flashcards
Cost is __
an action, not a price.
Cost should always be viewed as
opportunity cost
Cost is AKA
next best alternative
To be economically profitable
you need to go beyond ensuring that revenues exceed costs; you must deliver a profit that outperforms the next best alternative of the resources you utilize.
It is rare to find
economic profit AKA pure profit opportunities
Law of Diminishing Returns
states that as more and more units of a variable resource are combined with a fixed number of another resource then using additional units of the variable resource will eventually increase output at a decreasing rate.
Diminishing returns will mean that there’s a point at which an additional unit means
the marginal product is at its peak, and beyond that a point at which marginal product is zero.
If MC is
AC must fall. Diminishing returns means that eventually marginal costs will begin to rise so eventually average costs will.
Fixed Cost
cost that is fixed with respect to changes in output
Variable cost
is one that varies with respect to output
sunk cost
Incurred due to an irreversible decision that turns out to be mistake.
Sunk Cost Fallacy
confront sunk costs means that you’re admitting to previous error - its easier to buy time in hope that mistake is not mistake, rather than admit to them and move on
Variable costs
should be focus of attention
Shut Down Condition
refers to the claim that a business unit should be open provided it can cover its variable costs
Transferred costs - “Externalities”
refer to situation where the decision maker doesn’t bear the full cost of their actions
As output increases
average fixed costs will fall
the variable input will exhibit
increasing returns to scale over a certain range of output putting downward pressure on average costs.
Average cost curve will always
be ‘U’ shaped
If marginal revenue exceeds marginal cost
you are selling the final product for more than the cost of making it.
If marginal revenue is lower than marginal cost
it costs you more to create product so you will produce less which will lead to more profit
In equilibrium, you maximize profit when
marginal revenue equals marginal costs
In the long run average curve will be
U shaped. As output increases, AC will initially decline, because fixed costs can be spread over more units - ‘economies of scale’
2 Types of economies of scale
- internal
2. external
Examples of Internal economies of scale
- technical
- Commercial
- Financial
- Managerial
- Risk Bearing
Examples of External economies of scale
- Political
- Infrastructure
- Local reputation
- Supply of skilled labor
- Access to raw materials/supplies
- Knowledge spillovers
Economies of scope
occurs when the cost of producing two goods together is less than producing them separately is another source of advantage for larger firms
Diseconomies of scale
Some argue that capitalism leads to an increasing concentration of capital (average cost curves slope downwards over the whole range of output)
Make hidden costs
explicit
Costs are
the markets way of signaling resource scarcity.
costs result from the use of
factor inputs
costs need to be
optimized, not minimized.
