Costs Flashcards
What is short run
When at least one FOP is fixed
What is the long run
When all FoP are variable
What are variable costs
Costs which vary with output.
Eg a chefs variable costs could be the ingredients they use, more meals mean more ingredients
What are fixed costs
Costs which don’t vary with output
Eg restaurant kitchen equipment, you wouldn’t buy more equipment if there is an increase in the amount of meals demanded
Total cost equation
TC = total variable cost + total fixed cost
What is marginal cost
The additional cost of selling one extra unit
Marginal cost formula
MC = change in TC/ change in Q
What is the law of diminishing marginal returns
When Productivity will eventually diminish
Does diminishing marginal returns occur in the long or short run
Short run only
Average variable cost formula
AVC= TVC/Q
AC = …
TC/Q
Average total cost formula
ATC = AVC+ MC
= TC/ Q
= AVC +AFC
What are the internal economies of scale?
Risk bearing
Managerial
Financial
Purchasing
Technical
Marketing
As companies get bigger they can exploit internal economies to…
Reduce their LRAC
What is internal diseconomies of scale
When a firm expands too much and its LRAC starts to rise
What are the 3 main reasons why a firm might experience internal diseconomies of scale
Alienation- when workers feel disconnected at work
Bureaucracy- all the paperwork and forms that a firm has to pay for when it gets really big
Communication- takes long to communicate between staff and more expensive as a firm gets big
All increasing LRAC
What is internal economies of scale
When LRAC falls as a firm expands
What is minimum efficient scale
The quantity Where a firm first reaches its lowest LRAC
What is external economies of scale
Reductions in LRAC, as industry output increases
Average return equation
Average return= total output / total input
What is total return
The total output produced by all of the inputs
Input eg would be chef and output would be pizza
What is returns to scale
Measures how a firms output changes in response to a change in a firms inputs
Purchasing economies of scale
As firms expand, they are able to purchase raw materials such as oil and food in bulk which reduce their LRAC as they can negotiate lower prices with suppliers, increasing output
Technical economies of scale
Large firms invest in specialist machinery such as Amazon’s warehouse robots who track and package customer items into box which allows them to deliver 426 items per second. This allows LRAC to decrease because wage costs decrease and output increases
Managerial economies of scale
Large firms are able to employ specialist managers who specialise in different tasks such finance managers. This decrease LRAC productivity and output increases.
Whereas for small firms it would be extremely expensive to employ specialist staff as they would only be producing a few units
Marketing economies of scale
Celebrity endorsements such as KSI and Logan Paul advertising their new drink called prime allowing output to increase sales due to a large and loyal fanbase.
Firms promoting goods during peak seasons such as Christmas and Easter to increase demand and output.
Financial economies of scale
CEO of Alibaba, took out a risky loan of 25% as the bank wanted to offset the high risk of lending to the CEO with little experience. As Alibaba grew into an MNC, this led to the bank willing to lend at a lower IR as it was less risky for the bank.
In 2016, the bak issued a loan of $3bn at 2% IR
Risk-bearing economies of scale
Richard Branson used supernormal profits made by Virgin records to diversify into new markets allowing cost of failure to decrease. Richard diversified into more than 400 sectors E.G
Virgin cola entered the market and spent $1bn on advertisements but due the Coca Cola strong brand loyalty consumers did not switch to the substitute leading to Virgin cola leaving the market
Examples of External economies of scale
Alaska airlines used ai to optimise flight paths which saved 500000000 gallons of fuel and saved nearly $1bn in costs
Green screen allowing transportation costs to decrease for the entire film industry
