The Costs Of ProductionShaikha Salah AlMidfa 201017515AfraHumaid AlShamsi 20105205Fatima Obaid Al Suwaidi 201010455Fatma Ahmed AlFalasi 200911404
CONTENTTotal Revenue, Total Cost, and ProfitOpportunity CostsEconomic Profit vs. Accounting Profit Production & Costs The Various Measures Of Costs Costs In The Short & Long Run
Cost Of Production Cost: “An amount that has to be paid or given up in order to get something.” What controls the behavior of a producer?(http://www.businessdictionary.com/definition/cost.html#ixzz1vKqC0lpM)
Industrial Organization The study of how firms decisions about prices and quantities depend on the market conditions they face.Examples on Market Conditions:• Number of Competitors• What and how much a customer demands
Achieving profitProfit = Total Revenue – Total Cost Total Revenue: The Total Cost: The amount a firm market value of the receives for the sale inputs a firm uses in of its output production
Opportunity Costs“The cost of something is what you give up to get it” Ten Principles Of Economics Explicit Costs: Input costs that require an outlay of money by the firm - Wages - Rent Payments - Utilities Implicit Costs: Input costs that do not require an outlay of money by the firm
Economists Vs. AccountantsEconomists are interested in production&pricing decisions Implicit Costs Explicit CostsAccountants are interested in keeping track of money flows Implicit Costs Explicit Costs
The Cost Of Capital Is An Opportunity CostThe Opportunity Cost of the financial capital that has been invested in thebusiness is an important implicit cost. Capital: $ 900,000 $ 18,000 > or < 18,000 ? (2%) Annual Opportunity Cost
Economic & Accounting ProfitEconomic Profit: Total revenue minus total cost (including both explicit & implicit costs)Accounting Profit: Total revenue minus total explicit cost* Accounting Profit > Economic profitBecause Implicit costs are ignored. Explici t Explicit Implicit Accounting Profit Economic Profit
Production functionQuantity of output(cookies per hour) 100 80 60 40 20 0 1 2 3 4 5 Number of workers hired
Total cost curve Marginal productTotalcost 60 50 40 30 20 10 Quantity of 0 20 40 60 80 100 120 output (cookies per hour)
Production functionNumber Output Marginal Cost of Cost of Total cost of (quantity products of workers worker of inputsworkers of cookies labor s cost of produced factory + per hour) cost of workers) 0 0 $30 $0 $30 50 1 50 30 10 40 40 2 90 30 20 50 30 3 120 30 30 60 4 140 20 30 40 70 5 150 10 30 50 80 Diminishing marginal product
From the production function To The Total-Cost Curve
Fixed and variable costs Fixed costs (FC): costs that do not vary with the quantity of output produced. Variable costs (VC): costs that vary with the quantity of output produced. Total cost (TC) = FC + VC
Average and marginal cost Average total cost = total cost/quantity ATC = TC/Q Marginal cost : the increase in total cost that arises from an extra unite of production.Marginal cost = change in total cost/change in quantity MC = ∆TC/ ∆Q
Cost curves and their shapes: average total cost (ATC): total cost divided by the quantity of output. Average fixed cost (AFC): fixed cost divided by the quantity of output. Average variable cost (AVC): variable cost divided by the quantity of output. Marginal cost (MC): the increase in total cost that arises from an extra unite of production.
Conrad’s average-cost and marginal-cost curves
The cost curves shown here for Conrad’s coffee shop have some features that are common to the cost curves of many firms in the economy.1. Rising marginal cost2. U-shaped average total cost3. The relationship between marginal cost and average total cost.
The division of total costsbetween fixed and variablecosts depends on thetime horizon.
Short Run Example: Ford Motor Company Size of the factory is fixed in the short run To vary quantity of cars produced, ford will have to change the number of workers they employ. Increase in quantity of cars produced, increases the cost.
Diminishing Marginal Returns:“A law of economics stating that, as the number of newemployees increases, the marginal product of an additionalemployee will at some point be less than the marginalproduct of the previous employee.” Problem of overcrowding
Long Run Example: Ford Motor Company Inputs are variable in the long run Firms can expand the size of factories, build new factories or close old ones. Ford can expand both the size of the factory and the workforce
LRATC CurveFirm can choose from 3 factory sizes: S, M, L.The firm can change it’s factory size in the long run not in the short run.
LRATC Curve To manufacture less than QA, in the long run the firm will choose size S. To manufacture between QA and QB, in the long run the firm will choose size M. To manufacture more than QB, in the long run the firm will choose size L.
Scale of Production Economies of scale: Long run average total cost falls as the quantity of output increases. Constant returns to scale: Long run average total cost stays the same as the quantity of output changes Diseconomies of scale: Long run average total cost rises as the quantity of output increases
Scale of Production Economies of Scale: Allows specialization among workers. It allows each worker to become better at a specific task Example: Assembly Line Diseconomies of scale: Coordination problem The more stretched the management become. It becomes less effective. QUIZ
Quick Quiz1) Profit = Total Revenue + Total Cost False1) Accountants include Explicit & Implicit Costs False1) Fixed costs do not vary but variable costs do True