TOPIC 5 - The Short-Run Theory of Production Flashcards
General Objectives and definitions
Define the Short Run
The short run is a period where at least one factor of production is fixed (not changing).
Is total output fixed in the short run?
The total output in the short run is not fixed as it may vary due to the variable factors of production
Define the Long Run
The long run is a period where all the factors of production are variable
Define “Total Physical Product” (TPP)
The total physical product shows the maximum units produced by all employees when working at an efficient rate
Define “Marginal Physical Product”
The marginal physical product is all the additional units produced per employee due to the variable factor
Define “Average Physical Product”
The average physical product represents how much the employee is producing on average
Define the “Law of Diminishing Marginal Returns”
Initially, when adding a variable factor, the production rate increases but if too much variable factor (for ex. labour) is added, the additional units of the variable factor will diminish making the marginal product decrease
When does the “Law of Diminishing Marginal Returns” occur?
The law of diminishing marginal return occurs in the short run because one factor of production cannot be changed while the other factors vary
When does the “Law of Diminishing Marginal Returns” set in?
The law of diminishing marginal returns set in once each additional worker produces less than the previous worker
Define the “Law of Variable Proportions”
Essentially it is when a producer increases the units of a variable factor while keeping the others fixed; the total product will increase at a high rate but then there comes a point where it slowly starts to increase at a diminishing rate and finally, it will start to decline
Why is it called the “Law of Variable Proportions”?
This is because one factor is kept fixed whereas other factors are changing
Look at the relationship between the Total Physical Product TPP and Marginal Physical Product MPP when MPP is increasing
When MPP is increasing, TPP is also increasing at an increasing rate. Each worker is producing more than the previous worker. This is why total product increases rapidly
Look at the relationship between the Total Physical Product TPP and Marginal Physical Product MPP when MPP is decreasing but still positive
When MPP is decreasing but positive (still above the x-axis), TPP is increasing at a decreasing rate. Each additional worker is producing less than the previous worker. This is the reason why the total product increases very slowly. AT THIS POINT WORKERS ARE BECOMING LESS EFFICIENT
Look at the relationship between the Total Physical Product TPP and Marginal Physical Product MPP when MPP is decreasing but negative
When MPP is decreasing but negative (below the x-axis), TPP is decreasing
Look at the relationship between the Total Physical Product TPP and Marginal Physical Product MPP when MPP is 0
TPP is at the maximum point when MPP is 0. Employing additional workers will reduce the total product/output
Look at the relationship between the Average Physical Product APP and Marginal Physical Product MPP when the MPP curve is above the APP curve
When the MPP curve is above the APP curve, the AP curve slopes upwards.
Look at the relationship between the Average Physical Product APP and Marginal Physical Product MPP when the MPP curve is below the APP curve
If the MPP curve is below the APP curve, the APP curve slopes downwards. This means that MPP intersects the APP at the highest point of the APP curve
Define “Fixed Costs”
Fixed costs are those expenses which are fixed and cannot vary regardless of the production or sales within a certain range. Fixed costs are incurred even if production/sales drop to 0
Give examples of “Fixed Costs”
- Rent
- Employee Salaries
- Insurance
- Property Taxes
Define “Variable Costs”
Variable costs are those expenses that change directly and proportionally with the level of production or sales. Variable costs are only incurred when there is production/sales
Give examples of “Variable Costs”
- Raw materials
- Direct Labour Wages (hourly wages)
- Packaging Materials
Define “Marginal Costs”
Marginal costs are those extra costs which are incurred when producing per extra unit.
How do you work out Marginal Costs?
Marginal Costs = Change in total cost / change in output
Where do you find the Fixed Costs (FC) on a graph?
Total fixed costs do not vary/change with the level of output therefore it is just a straight line with a gradient of 0, parallel to the x-axis
Where do you find the Variable Costs (VC) on a graph?
Variable costs start from the origin because when nothing is produced, there are no variable costs to be paid
Where do you find the Total Costs (TC) on a graph?
Total Costs does not start from the origin because it is made up of both Fixed and Variable Costs
TOTAL COSTS = VARIABLE COSTS + FIXED COSTS
What happens to the marginal cost as more output is produced?
As more output is produced, extra units of output cost less than the previous units made therefore the marginal cost is decreasing
At what rate does total and variable cost increase at?
It increases at a decreasing rate
