Chapter 7: The Cost Of Production Flashcards
The _____ combinations are chosen
The best or optimal (cost minimising)
What is the difference between economic and accounting cost
Accounting cost - actual expenses plus depreciation charged for capital equipment
Economic cost - cost to a firm of utilising economic resources in production
Explain opportunity cost
It is the cost associated with opportunities forgone when a firms resources are not put to their best alternative use
Economy cost = Opportunity cost
What’s the difference between sunk costs and prospective sunk cost
Sunk costs - expenditure that has been made and cannot be recovered
Prospective sunk cost - not yet incurred the cost but is considering it
Differentiate between total cost, fixed cost and variable cost
Total cost - is the total economic cost of production, consisting of fixed and variable costs
Fixed cost - is the cost that does not change/vary with the level of output and that can be eliminated only by shutting down
Variable cost - cost that varies as output varies
When do cost from fixed to variable
In the long run
What is amortisation
Policy of treating a one time expenditure as an annual cost spread out over some number of years
What is a marginal cost
Increase in cost resulting from the production of one extra unit of output
Explain diminishing marginal returns
Diminishing marginal returns means that the marginal product of labour declines as the quantity of labour employed increases.
As a result, when there are diminishing marginal return, marginal cost will increase as output increases and vice versa
How can a firm expand its capacity in the long run
By expanding existing factories or building new ones
What is the user cost of capital
Annual cost of owning and using a capital asset (= economic depreciation + forgone interest)
What is a fundamental problem that all firms face
How to select inputs to produce a given output at minimum cost
What is the expansion path
Curve passing through points of tangency between a firms isocost lines and its isoquants
What is the most important determinant of the long run average cost curve and marginal cost curve
It is the relationship between the scale of firms operations and input required to minimise costs
What is the long run marginal cost curve
It is the curve showing the change in long run total cost as output is increased by one unit
What is the difference between the short run and long run average cost curve
The SAC - it is a curve relating average cost of production to output when level of capital is fixed
The LAC - it is a curve relating average cost of production to output when all inputs including capital are variable
Differentiate between economies and diseconomies of scale
Economies of scale - as output increases the firms average cost of producing that output is likely to decline at least to a point (output can be doubled for less than a doubling of cost
Diseconomies of scale - at some point it is likely that average cost of production will begin to increase without output (doubling of output requires more than a doubling of cost)
What are the reasons for economies of scale
- if the firm operates on a larger scale, workers can specialise in activities that wish their most productive
- Scale can provide flexibility. By varying the combination of inputs utilised to produce the firms output managers can organise the production process more effectively.
- The firm may be able to acquire some production input at lower cost because it is buying them in large quantities and therefore can negotiate better prices
What are the reasons for diseconomies of scale
- In the short run, factory space and machinery may make it difficult for workers to do their jobs effectively
- Managing a larger firm may become more complex and inefficient as the number of tasks increase
- The advantages of buying in bulk may have disappeared once certain quantities are reached, at some point available supplies of key inputs may be limited therefore pushing their costs up
What is a product transformation curve
Curve showing the various combinations of two different outputs(products) that can be produced with a given set of inputs
Differentiate between economies of scope and diseconomies of scope
Economies of scope - situation in which joint output of a single firm is greater than output that could be achieved by two different firms when each produces a single product
Diseconomies of scope - situation in which joint output of a single firm is less than output that could be achieved by separate firms when each produces a single product
What are the reasons that the long run average cost curve decreases
If firms average cost of production can decline overtime because of growth in sales when increasing returns of present or it can decline because there is a learning curve
What are the reasons that the long run average cost curve decreases in relation to the learning curve
- As workers adapt their speed increases
- Managers learn to schedule the production processes more effectively
- Engineers who are initially cautious in the product designs may gain enough experience to be able to allow for tolerances in design
- Suppliers may learn how to process required materials more effectively
