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College of Business Management Institute of Business Management ECO 101 - Principles of Microeconomics Faculty Name: Ms. SABEEN ANWAR

This document discusses the costs of production in microeconomics. It defines various types of costs including fixed costs, variable costs, total costs, average costs and marginal costs. It explains that total cost is the sum of fixed and variable costs. Marginal cost refers to the increase in total cost from producing one additional unit. The document also discusses concepts like economies of scale and cost curves, noting that average total cost curves are typically U-shaped and marginal cost curves rise over time.

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83 views3 pages

College of Business Management Institute of Business Management ECO 101 - Principles of Microeconomics Faculty Name: Ms. SABEEN ANWAR

This document discusses the costs of production in microeconomics. It defines various types of costs including fixed costs, variable costs, total costs, average costs and marginal costs. It explains that total cost is the sum of fixed and variable costs. Marginal cost refers to the increase in total cost from producing one additional unit. The document also discusses concepts like economies of scale and cost curves, noting that average total cost curves are typically U-shaped and marginal cost curves rise over time.

Uploaded by

usama farooq
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOC, PDF, TXT or read online on Scribd
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College of Business Management

Institute of Business Management


ECO 101 - Principles of Microeconomics

Faculty Name: Ms. SABEEN ANWAR

Chapter 13: The costs of production

What are costs?

Profit is calculated as the difference between total revenue minus total cost.

It is assumed that most entrepreneurs and firms like to maximize profit.

It is important to base the calculation of profits on all costs, i.e. including implicit costs like
forgone wages or interest payments. The calculation of profit based on total costs including
explicit and implicit costs gives us the economic profit. The calculation based only on
explicit costs gives us the accounting profit.

Production and Costs

The production function represents the relationship between quantity of inputs used to make
a good and the quantity of output of that good.

The marginal product is defined as the increase in output that arises from an additional unit
of input.

In reality we often observe diminishing marginal products, i.e. the property whereby the
marginal product of an input declines as the quantity of the input increases.
The market value of all the inputs that a firm uses in production . The total cost curve shows
the total costs for all the factors of production depending on the quantity of inputs used. The
total cost curve rises when the quantity produced is rising. The total cost curve gets steeper as
the quantity of output increases. This can be explained by the diminishing marginal product.

The various measures of cost


Fixed costs do not vary with the quantity of output produced. Variable costs, however, vary
with the quantity produced. Total cost is the sum of fixed cost + total variable costs.
We can calculate a number of average costs: Average total cost is “total cost divided by the
quantity of output”. Average fixed cost is “fixed cost divided by the quantity of output”.
Average variable cost is the variable costs divided by the quantity of output.

The marginal cost is the increase of total cost that arises from an extra unit of production.

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Typically the average total cost curve is U-shaped. This is so because the average fixed cost
curve is downward sloping, the average variable cost curve rise, possible after an initial
period of decline.

The bottom of the average total cost curve indicates the “efficient scale”.

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.

Some typical aspects of cost curves can be summarized:


- marginal cost curves eventually rise
- the average fixed cost curve declines.
- the average total cost curve is U-shaped.
- The marginal cost curve crosses the average-total-cost curve at the minimum of
average total cost.

Costs in the short run and in the long run


In the short-run firms have to accept fixed costs and the level of variable costs as given.
However, in the long-run some costs can be reduced. This implies that the long-run average
costs are below the short-run-average costs. The long-run-average cost-curve lies below the
short-run curve.

Economies of scale
The property whereby long-run average total cost falls as the quantity of output increases is
called economies of scale.
The property whereby long-run average total cost rises as the quantity of output increases is
called diseconomies of scale.
The property whereby long-run average total cost stays the same as the quantity of output
changes is called constant returns to scale.
Important concepts:

Term Definition Mathematical description


Explicit costs Costs that require an outlay of -
money by the firm
Implicit costs Costs that do not require an -
outlay of money by the firm
Fixed costs Costs that do not vary with FC
the quantity of output
produced
Variable costs Costs that do vary with the VC
quantity of output produced
Total costs The market value of all the TC = FC + FC
inputs that a firm uses in
production
Average fixed cost Fixed costs divided by the AFC = FC/Q
quantity of output
Average variable cost Variable costs divided by the AVC = VC/Q
quantity of output
Average total cost Total cost divided by the ATC = TC/Q
quantity of output
Marginal cost The increase in total cost that MC = Δ TC/ Δ Q
arises from an extra unit of

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production.

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