Cost and Industry Structure Flashcards
Profit Funtion
Profit = Revenue - Cost
Revenue Funtion
Revenue = Price X Quantity
What inputs does a firms production depend on?
Labor and Capital
Average Total Cost (average cost) in the Short Run Equation and its Definition
Total Cost / Total Quantity of Output
Average total cost is a U-shaped graph. It starts relatively high b/c low levels of production total costs are dominated by fixed costs. As output increases the average cost decreases because cost is spread out over increased production. Eventually the average cost begins to rise with production as diminishing returns kick in.
Average Variable Cost Equation and Definition
Variable Cost / Quantity of Output
Costs incurred in the act of producing. The more you produce the greater the variable cost.
This is a constant cost added to the production of a good. It takes exactly x labor hours and y resources to produce one good.
Marginal Cost Equation and Definition
Change in Total Cost / Change in Quantity of Output
Additional cost of producing one more unit of output
Average Profit (profit margin) Function
Profit / Quantity of Output
or
Average Profit = Price - Average cost
Average Revenue Function
Average Revenue = (Price x Quantity Produced) / Quantity Produced
Economies of Scale
As quantities of output goes up, the cost per unit goes down
Short-Run Average Cost Curves (SRAC)
Shows the total of the average fixed costs and the average variable costs
Constant Returns to Scale
An increase in inputs (capital or labor) causes the same proportional increase in output
Diseconomies of Scale
Occurs when a firm grows so large that the expansion of output comes with increasing average unit cost
Diminishing Marginal Returns
Occur because, at a given level of fixed costs, each additional input contributes less and less to overall production.
Fixed Costs in the Short Run
Expenditures that do not change regardless of the level of production
How are each of the following calculated, Marginal Cost, Average Total Cost, Average Variable Cost?
Marginal Cost = change in total cost / change in output
Average Total Cost = total cost / total output
Average Variable Cost = variable cost / output
Production Technologies
A specific combination of labor, physical capital, and technology that makes up a particular production method.
A firm will search for the production technology that allows it to produce the output at the lowest cost
Short-Run Average Cost Curve
Represents the average total cost in the short-run considering fixed costs and average variable costs
Long-Run Average Cost Curve
Shows the lowest possible average cost of production when a firm can chose its level of fixed costs.
Left portion of the curve is downward sloping, showcasing economies of scale. The middle of the curve is flat, showing that economies of scale have been exhausted, and we reach constant returns to scale. The right portion of the curve begins to slope upward, and diseconomies of scale take effect in the long run.
Method 1: 50 units of labor, 10 units of capital
Method 2: 20 units of labor, 40 units of capital
Method 3: 10 units of labor, 70 units of capital
If hiring labor costs $100/unit and a unit of capital costs $400, what production method should be chosen? What method should be chosen if the cost of labor rises to $200/unit?
Method 1 @ 100/400 = 5000 + 4000 = 9,000
Method 2 @ 100/400 = 2000 + 16,000 = 18,000
Method 3 @ 100/400 = 1000 + 28,000 = 29,000
Method 1 @ 200/400 = 10,000 + 9,000 = 19,000
Method 2 @ 200/400 = 4,000 + 16,000 = 20,000
Method 3 @ 200/400 = 2,000 + 28,000 = 30,000
