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Cost behavior
Cost analysis  <ul><li>Types of costs:- </li></ul><ul><li>Behavior of cost in the short run </li></ul><ul><li>Behavior of ...
Costs in the Short run <ul><li>Fixed costs and variable costs </li></ul><ul><li>Total costs </li></ul><ul><ul><li>total fi...
Total costs for firm X Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12
Total costs for firm X TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12
Total costs for firm X TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91
Total costs for firm X TVC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 TFC
Total costs for firm X TVC TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 T...
Total costs for firm X TC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 TC (£)...
Total costs for firm X TC TVC TFC Costs start increasing at an increasing rate  here
Costs in the Short run <ul><li>Average cost </li></ul><ul><ul><li>average fixed cost ( AFC ) </li></ul></ul><ul><ul><li>av...
Average and marginal costs Output ( Q ) Costs (£) MC x
Average and marginal costs Output ( Q ) Costs (£) MC x Diminishing marginal returns set in here
Average and marginal costs Output ( Q ) Costs (£) AFC AVC MC x AC z y
Marginal Costs  <ul><li>MC depends only on variable costs </li></ul><ul><li>Shows cost impact of change in production – fi...
Marginal Costs  <ul><li>MC is change in total cost as result of one unit change in output, TC(N) - TC(N-1) </li></ul><ul><...
What is the relationship between average and marginal costs? If MC < AC, then AC is falling If MC > AC, then AC is rising ...
COST BEHAVIOR  LONG RUN COSTS
Deriving long-run average cost curves: factories of fixed size Costs Output O 3 factories 2 factories 1 factory SRAC 3 SRA...
Deriving long-run average cost curves: factories of fixed size SRAC 1 SRAC 3 SRAC 2 SRAC 4 SRAC 5 LRAC Costs Output O
Deriving a long-run average cost curve: choice of factory size Costs Output O Examples of short-run average cost curves
Deriving a long-run average cost curve: choice of factory size LRAC Costs Output O
Economies of Scale <ul><li>The advantages of large scale production that result in lower unit (average) costs (cost per un...
Economies of Scale (internal) <ul><li>Internal – Advantages that arise as a result of the growth of the firm </li></ul><ul...
Economies of Scale <ul><li>Internal: Technical </li></ul><ul><ul><li>Specialisation  – large organisations  can employ spe...
Economies of Scale <ul><li>Indivisibility of Plant: </li></ul><ul><li>Not viable to produce products  like oil, chemicals ...
Economies of Scale <ul><li>Commercial </li></ul><ul><li>Large firms can negotiate favourable prices as a result of buying ...
Economies of Scale <ul><li>Financial </li></ul><ul><li>Large firms able to negotiate cheaper finance deals </li></ul><ul><...
Economies of Scale <ul><li>Managerial </li></ul><ul><ul><li>Use of specialists – accountants, marketing, lawyers, producti...
Economies of Scale <ul><li>Risk Bearing </li></ul><ul><ul><li>Markets across regions/countries </li></ul></ul><ul><ul><li>...
Economies of Scale (external) <ul><li>External economies of scale :–  </li></ul><ul><li>The advantages firms can gain as a...
Diseconomies of Scale <ul><li>The disadvantages of large scale production that can lead to increasing average costs </li><...
More concepts :- <ul><li>Stigler’s survivorship technique </li></ul><ul><li>Economies of scope:- </li></ul>
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Cost mms 10

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  • Transcript of "Cost mms 10"

    1. 1. Cost behavior
    2. 2. Cost analysis <ul><li>Types of costs:- </li></ul><ul><li>Behavior of cost in the short run </li></ul><ul><li>Behavior of cost in the long run </li></ul><ul><li>Economies of scale Vs Economies of scope </li></ul>
    3. 3. Costs in the Short run <ul><li>Fixed costs and variable costs </li></ul><ul><li>Total costs </li></ul><ul><ul><li>total fixed cost ( TFC ) </li></ul></ul><ul><ul><li>total variable cost ( TVC ) </li></ul></ul><ul><ul><li>total cost ( TC = TFC + TVC ) </li></ul></ul>
    4. 4. Total costs for firm X Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12
    5. 5. Total costs for firm X TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12
    6. 6. Total costs for firm X TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91
    7. 7. Total costs for firm X TVC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 TFC
    8. 8. Total costs for firm X TVC TFC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 TC (£) 12 22 28 33 40 52 72 103
    9. 9. Total costs for firm X TC Output (Q) 0 1 2 3 4 5 6 7 TFC (£) 12 12 12 12 12 12 12 12 TVC (£) 0 10 16 21 28 40 60 91 TC (£) 12 22 28 33 40 52 72 103 TVC TFC
    10. 10. Total costs for firm X TC TVC TFC Costs start increasing at an increasing rate here
    11. 11. Costs in the Short run <ul><li>Average cost </li></ul><ul><ul><li>average fixed cost ( AFC ) </li></ul></ul><ul><ul><li>average variable cost ( AVC ) </li></ul></ul><ul><ul><li>average (total) cost ( AC ) </li></ul></ul><ul><li>Relationship between average and marginal cost </li></ul>
    12. 12. Average and marginal costs Output ( Q ) Costs (£) MC x
    13. 13. Average and marginal costs Output ( Q ) Costs (£) MC x Diminishing marginal returns set in here
    14. 14. Average and marginal costs Output ( Q ) Costs (£) AFC AVC MC x AC z y
    15. 15. Marginal Costs <ul><li>MC depends only on variable costs </li></ul><ul><li>Shows cost impact of change in production – fixed costs have no relevance to cost consequence of output change. </li></ul>
    16. 16. Marginal Costs <ul><li>MC is change in total cost as result of one unit change in output, TC(N) - TC(N-1) </li></ul><ul><li>Rate of change of total cost with respect to output: </li></ul><ul><li>MC=  TC/  N </li></ul><ul><li> FC/  N +  VC(N)/  N </li></ul><ul><li> VC(N)/  N </li></ul>
    17. 17. What is the relationship between average and marginal costs? If MC < AC, then AC is falling If MC > AC, then AC is rising If MC = AC, then AC is constant
    18. 18. COST BEHAVIOR LONG RUN COSTS
    19. 19. Deriving long-run average cost curves: factories of fixed size Costs Output O 3 factories 2 factories 1 factory SRAC 3 SRAC 4 SRAC 5 5 factories 4 factories SRAC 1 SRAC 2
    20. 20. Deriving long-run average cost curves: factories of fixed size SRAC 1 SRAC 3 SRAC 2 SRAC 4 SRAC 5 LRAC Costs Output O
    21. 21. Deriving a long-run average cost curve: choice of factory size Costs Output O Examples of short-run average cost curves
    22. 22. Deriving a long-run average cost curve: choice of factory size LRAC Costs Output O
    23. 23. Economies of Scale <ul><li>The advantages of large scale production that result in lower unit (average) costs (cost per unit) </li></ul><ul><li>AC = TC / Q </li></ul><ul><li>Economies of scale – spreads total costs over a greater range of output </li></ul>
    24. 24. Economies of Scale (internal) <ul><li>Internal – Advantages that arise as a result of the growth of the firm </li></ul><ul><ul><li>Technical </li></ul></ul><ul><ul><li>Commercial </li></ul></ul><ul><ul><li>Financial </li></ul></ul><ul><ul><li>Managerial </li></ul></ul><ul><ul><li>Risk Bearing </li></ul></ul>
    25. 25. Economies of Scale <ul><li>Internal: Technical </li></ul><ul><ul><li>Specialisation – large organisations can employ specialised labour </li></ul></ul><ul><ul><li>Indivisibility of plant – machines can’t be broken down to do smaller jobs! </li></ul></ul><ul><ul><li>Increased dimensions – bigger containers can reduce average cost </li></ul></ul>
    26. 26. Economies of Scale <ul><li>Indivisibility of Plant: </li></ul><ul><li>Not viable to produce products like oil, chemicals on small scale – need large amounts of capital </li></ul><ul><li>Agriculture – machinery appropriate for large scale work – combines, etc. </li></ul>
    27. 27. Economies of Scale <ul><li>Commercial </li></ul><ul><li>Large firms can negotiate favourable prices as a result of buying in bulk </li></ul>
    28. 28. Economies of Scale <ul><li>Financial </li></ul><ul><li>Large firms able to negotiate cheaper finance deals </li></ul><ul><li>Large firms able to be more flexible about finance – share options, rights issues, etc. </li></ul>
    29. 29. Economies of Scale <ul><li>Managerial </li></ul><ul><ul><li>Use of specialists – accountants, marketing, lawyers, production, human resources, etc. </li></ul></ul>
    30. 30. Economies of Scale <ul><li>Risk Bearing </li></ul><ul><ul><li>Markets across regions/countries </li></ul></ul><ul><ul><li>Product ranges </li></ul></ul><ul><ul><li>R&D </li></ul></ul>
    31. 31. Economies of Scale (external) <ul><li>External economies of scale :– </li></ul><ul><li>The advantages firms can gain as a result of the growth of the industry – normally associated with a particular area </li></ul><ul><li>Supply of skilled labour </li></ul><ul><li>Local knowledge and skills </li></ul><ul><li>Infrastructure </li></ul><ul><li>Training facilities </li></ul>
    32. 32. Diseconomies of Scale <ul><li>The disadvantages of large scale production that can lead to increasing average costs </li></ul><ul><ul><li>Problems of management </li></ul></ul><ul><ul><li>Maintaining effective communication </li></ul></ul><ul><ul><li>Co-ordinating activities – often across the globe! </li></ul></ul><ul><ul><li>De-motivation and alienation of staff </li></ul></ul><ul><ul><li>Divorce of ownership and control </li></ul></ul>
    33. 33. More concepts :- <ul><li>Stigler’s survivorship technique </li></ul><ul><li>Economies of scope:- </li></ul>
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