Module 5: Principles of Production and Costs Flashcards
1.Goal of the Firm 2. Total Revenue and Total Cost 3. The Production Function 4. The Various Measures of Costs 5. Cost Curves and their Shapes
firms are willing to produce and sell a greater quantity of a good when the price of the good is higher. So that’s why you have your upward sloping supply curve.
LAW OF SUPPLY
the study of how firms’ decisions about prices and quantities depend on the market condition they face.
INDUSTRIAL ORGANIZATIONS
BEHAVIOR OF PROFIT MAXIMIZING FIRMS
- How much output to supply (quantity of product)
- How to produce that output (which production technique/technology to use)
- How much of each input to demand. (to create your output, you need to have a certain demand of your inputs to produce your outputs
key factor inputs
Your raw materials, your K which represents you capital and your L which represents your label
the annual flow of net income generated by an investment expressed as a percentage of the total investment.
Rate of return
the rate that is just sufficient to keep owners and investors satisfied
normal rate of return
earning more than is sufficient to retain the interest of investors
positive level of profit
when it incurs a loss, it is earning a rate below that required to keep investors happy.
negative level of profit
the production method that minimizes cost
Optimal method of production
Determines total revenue
Price of output
determines total cost and optimal method of production
production techniques and Input prices
total revenue minus total cost with optimal method
total profit
the firm is operating under a fixed scale (fixed factor) of production, and firms can neither enter nor exit an industry.
Short run
the period of time for which there are no fixed factors of production: firms can increase or decrease the scale of operation, and new firms can enter and existing firms can exit the industry. Over time, the cost spread out for long time
Long run
the quantitative relationship between inputs and outputs.
Production technology
Technology that relies heavily on human labor instead of capital
labor intensive technology
Technology that relies heavily on capital instead of human labor
Capital-intensive technology
where your marginal rate of technical substitution is equal to zero.
Neutral technology
a process through which inputs are combined and transformed into outputs
Production
amount of output that can be produced whenever you increase your labor. (additional product of an additional unit of worker.)
Marginal Product of Labor
the relationship between the quantity of inputs used to make a good and the quantity of output of that good.
Production function
The additional benefit you get from additional worker demonstrates a diminishing direction or rate.
true
When you add fixed cost and Variable Cost
Total cost
in production function, the curve gets ______ as the number of workers increases which reflects the diminishing marginal product.
flatter
shows the relationship between the quantity of output produced and the total cost of production.
Total-cost curve
in total-cost curve, when you continue to increase your production, given the increase of your total number of workers, the curve will get ______
steeper
the property whereby the marginal product of an input declines as the quantity of the input increases. (As more and more workers are hired, each additional worker contributes less to the production of cookies
Diminishing marginal product
The total cost gets ___ as the amount of product produced increases, whereas the production function gets _____ as production rises
steeper, flatter
the extra or additional cost, producing one extra unit of output.
Marginal Cost
it vary as output changes
Variable cost
expenses that must be paid even if the firm produces zero output.
Fixed costs
total cost divided by the quantity of output. TC/Q
AVERAGE TOTAL COST
the cost of a typical unit of output. Suppose the cost is divided evenly over all the units produced
AVERAGE TOTAL COST
Fixed cost divided by the quantity of output. FC/Q
AVERAGE FIXED COST
Variable cost divided by the quantity of output VC/Q
AVERAGE VARIABLE COST
The increase in total cost that arises from an extra unit of production. ΔTC/ΔQ
MARGINAL COST
When your output increases, your total cost ____
increases
your fixed cost is ____
fixed
your variable cost is ____
increasing
In the average fixed cost, when you increase your output, the average cost ___
decreases
average variable cost shows an ____ trend
increasing
The average total cost ____ but it will have a turning point and will ____ after.
decreases, increase
The marginal cost is constantly
increasing
When the quantity of coffee produced is already high, the marginal product of an extra worker is low, and the marginal cost of an extra cup of coffee is large and vice versa
Rising Marginal Cost
Average fixed cost always declines as output rises because the fixed cost it getting spread over a larger number of units.
Average variable cost usually rises as output increases because of diminishing marginal product.
U-Shaped average total costs
the quantity of output that minimizes average total cost
Efficient scale
When AVC increases, it will also make the decreasing AFC increase.
However, when AVC decreases, AFC will not make it increase, instead AFC will be the one who will decrease.
true
Whenever marginal cost is less than average total cost, average total cost is falling. Whenever marginal cost is greater than average total cost, average total cost is rising
The relationship between marginal cost and average total costs.
at low levels of output, marginal cost is below your average total cost. So your average total cost is falling. But after the 2 cost curves cross, marginal cost rises above your average total cost.
minimum of average total cost.
In the long run, the firms gets to choose which short run term it wants to use. However, in the short run, it has to use whatever short run curve it has based on the decision it has made in the past.
true
all the long run curves lie on or above your short run curve, these properties arise because firms have greater flexibility in the long run.
false, the short run curves lie on or above the long run curves
a property whereby longer and average total cost falls as quantity of output increases
ECONOMIES OF SCALE
a property whereby the long and average total cost rises as the quantity of output increases
DISECONOMIES OF SCALE
a property whereby the longer and average total cost stays the same as a quantity of output changes.
CONSTANT RETURN TO SCALE
increases the productivity of labor
Additional capital
capital and labor are
complementary inputs
Capital and labor are at the same time ___ and _____ inputs. Capital enhances the productivity of labor, but it can also be substituted for labor
complementary, substitutable
If labor becomes expensive, firms can adopt _______; that is, they can substitue capital for labor.
labor-saving technologies
Two things determine the cost of production
(1) technologies that are available
(2) input prices.
it means equal or the same. It comes from a Greek word.
Iso
it means quantity and cost.
Quant
It means equal quantity and equal cost
Isoquant
Isocost and Isoquants hinges on the notion of
not diminishing marginal returns
States that adding an additional factor of production results in smaller increases in output.
Law of diminishing marginal returns
A graph that shows all the combinations if capital and labor that can be used to produce a given amount of output
Isoquant
It is always desirable to choose combinations of good X and good Y at the lowest.
false, highest
the marginal output that one unit of worker can produce.
MARGINAL PRODUCT LABOR (MPL)
the additional product that an additional capital can produce.
MARGINAL PRODUCT CAPITAL (MPK)
Whenever you increase the number of capital you enjoy in your production, you are also _______ labor for capital
decreasing or substituting
The ratio of MPL to MPK
marginal rate of technical substitution (MRTS)
It is the rate at which a firm can substitue capital for labor and hold output constant
marginal rate of technical substitution (MRTS)
it refers to your utility, which is the 4th theory. it also refers to technical substitution because you’re actually referring to your neighbor and your capital.
Marginal rate of substitution
(Wage/Price of the output) or (ΔTP/ΔL)
MPL
(Rental price of capital/Price of output) or (ΔTP/ΔK)
MPK
(-) MPL/MPK
ΔK/ΔL
A graph that shows all the combinations of capital and labor that are available for a given total cost
isocost line
they will hire additional capital and or labor as long as the marginal revenue of doing so exceeds the marginal cost.
MAXIMIZE PROFIT
each of its input is equal to the marginal cost.
MARGINAL REVENUE
MPL
W/P
MPK
R/P
MRTS vLK
-ΔK/ΔL
Slope of Isoquant=MRTS v LK
MPL/MPK
This indicates the rate at which additional units of labor (ΔL) can be substituted for fewer units of capital (-ΔK)
MRTSLK
When much capital and little labor are used,
the marginal productivity of labor is relatively great and the marginal productivity of capital is relatively small
Main properties of Isoquants
*Isoquants further from the origin represent greater levels of output.
*Isoquants slope downward.
*Isoquants never intersect.
*Isoquants tend to be convex; that is, bowed towards the origin
indentifies all combinations of capital and labor the firm can hire for a given total cost
ISOCOST LINE
a line representing equal total cost to the firm.
ISOCOST LINE
whenever you exhaust one one factor of production, the other factor or the potential benefit that you can gain from the other factor of production is greater than the exhausted one.
true
Only one input (labor) is variable and all other inputs are fixed.
Less unrealistic view
refers to the total amount of output produced by the firm.
Total product (TP or Q)
when a firm is earning an above-normal rate of return on capital.
positive level
total revenue minus total cost
- Profit
Total cost (economic cost) includes
(1) out of pocket costs and (2) the opportunity cost of each factor of production, including a normal rate of return on capital.
the additional output that an added unit of that input will produce if all other inputs are held constant.
marginal product of a variable input
when additional units of a variable input are added to fixed inputs, after a certain point, the marginal product of the variable input will dicline.
law of diminishing returns
costs that require an outlay of money by the firm
explicit costs
cost that do not require an outlay of money by the firm
implicit costs
