Economics

1. Production
and
Cost

2. Production
•Refers to any economic activity,
which combines the four factors
of production to form an output
that will give direct satisfaction
to consumers
• The process of converting inputs
into outputs

3. Categories of Inputs
• Land (natural resources) includes
those above and under the earth
like forest products and mineral
ores.
• Labor is the mental and physical
ability used in the production of
goods and services.
• Capital resources are the goods that
are used in the production of other
other goods and services like
machines, equipments, buildings,
buildings, etc.

4. Short Run vs Long Run
•Short-run is the period of time so short that
there is at least one fixed input therefore
changes in the output level must be
accomplished exclusively by changes in the use
use of variable outputs.
•Long-run is a period of time so long that all
inputs are considered variable.

5. The Production Function
•The functional relationship between
quantities of inputs used in production
and outputs to be produced.
•In order to produce a t-shirt, its
production function may appear as
follows:
etc.)Buttons,Thread,Sewer,Machine,Sewing(Fabrics,fO shirtt 

6. Production Concepts
•Total Product refers to the total output
produced after utilizing the fixed and
variable inputs in the production process.
process.
-Fixed inputs are components of
production which do not change,
like machineries and equipment.
-Variable inputs are the changeable
resources in the production, such as
raw materials and number of

7. •Marginal Product of an input is the extra
output produced by 1 additional unit of
of that input while other inputs are held
held constant.
•Average Product equals total product
divided by total units of input used.
1ΔI
ΔTP
MP 
12
12
LL II
TPTP
MP



1I
TP
AP 

8. Production Schedule of T-shirts
Input (Labor) TP MP AP
0 0
1 8
2 20
3 37
4 57
5 72
6 80
7 85
8 88
9 86
10 82

9. Production Schedule of T-shirts
Input (Labor) TP MP AP
0 0 0 0
1 8 8 8
2 20 12 10
3 37 17 12
4 57 20 14
5 72 15 14
6 80 8 13
7 85 5 12
8 88 3 11
9 86 -2 10
10 82 -4 8

10. Total, Marginal, and Average Products
-20
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8 9 10
Series 1
Series 2
Series 3

11. Law of Diminishing Returns
The Law of
Diminishing Returns
holds that we will get
less and less extra
output when we add
additional doses of an
input while holding
other inputs fixed.

12. Increasing marginal returns happen when
the marginal product of an additional
worker exceeds the marginal product of
of the previous worker.
Input (Labor) TP MP AP
1 8 8 8
2 20 12 10
3 37 17 12
4 57 20 14
5 72 15 14

13. Decreasing marginal returns occur when
the marginal product of an additional
worker is less than the marginal product
product of the previous worker hired to do
do the same task.
Input (Labor) TP MP AP
4 57 20 14
5 72 15 14
6 80 8 13
7 85 5 12
8 88 3 11
9 86 -2 10
10 82 -4 8

14. Returns to Scale
Constant returns to
scale indicates a
case where a change
change in all inputs
inputs leads to a
proportional change
in output.

15. Increasing returns to scale (also
called economies of scale) happen
happen when an increase in all
inputs leads to a more-than-
proportional increase in the level
level of output
Decreasing returns to
scale occur when a
balanced increase in all
inputs leads to a less-
than-proportional
increase in total output.

16. The Firm’s Goal
Of course, the basic goal of a firm is to
maximize its profit. A firm that does
not seek to maximize profit is either
eliminated or absorbed by firms that do
seek that goal.

17. Sales – Costs = Profit
Or
Total Revenue- Total Costs = Profit
Total cost
refers to all expenses acquired during the
economic activity or the production of goods or
services.
Total revenue
is the amount received from the sale of the
product.
price of the output X Quantity sold

18. In 2010, the total revenue of your t- shirts
company from the sale of souvenir shirts was
P150,000. Your firm paid P20,000 for fabric,
P22,000 for wages of the sewers you hired, and
P3,000 in interest to the bank from your loan. The
accountant of your firm said that the depreciation
of your firm’s sewing machines during the same
period was P10,000.
Profit = Total Revenue – Total Costs
= 150,000 – (20,000+ 22,000+ 3,000+
10,000)
= 150,000 – 55,000
Profit = P95,000

19. Explicit costs are payments to non- owners
of a firm for their resources such as labor
labor or the use of a building.
Examples:
- wages paid to labor
- rental charges for a plant or office
building
- the cost of electricity and phone
bills
- the cost of raw materials

20. Implicit costs are the opportunity costs
of using resources owned by the firm.
firm.
Example:
- Using a vacant room of
your house to be your
office you forego an
opportunity of renting it
out to others.

21. Fixed Cost
Also called overhead or
supplementary cost, are those expenses
are spent for the use of fixed factors of
production.
Fixed costs stay the same no matter
how much changes.
Fixed costs are sometimes call sunk
costs because once we have obligated
ourselves to pay them, that money has
been sunk into our business firm.

22. Variable Cost
Variable costs or prime or
operating costs are those expenses
change as a consequence of a change
quantity of output produced.
In case of reduction in production,
there should be a corresponding
decrease in variable costs to maintain
production efficiency.

23. However, some costs can have
a component or part that is fixed
and part that is variable.

24. Two Basic Categories of Cost
1. Total Fixed Cost (TFC) - consists of
cost that do not vary as output varies
and that must be paid even if output is
zero. Even if a firm does not produce any
output, still it must pay rent, property
taxes, etc.

25. 2. Total Variable Cost (TVC) -
consists of costs that are zero when
output is zero and vary as output
increases (decreases)

26. Given total fixed cost and total
variable cost, the firm can
calculate total cost (TC). Total
the sum of total fixed cost and total
variable cost at each level of output.
Thus,
TC = TFC + TVC

27. Average Fixed Cost
𝑨𝑭𝑪 =
𝑭𝑪
𝑸
Average Variable Cost
𝑨𝑽𝑪 =
𝑽𝑪
𝑸

28. Average Total Cost
𝑨𝑻𝑪 =
𝑻𝑪
𝑸
or
𝑨𝑻𝑪 = 𝑨𝑭𝑪 + 𝑨𝑽𝑪

29. Marginal Cost
Marginal Cost (MC) is the cost of producing
one additional unit of output. It is the change
change in total cost when one additional unit
unit of output is produced.

30. Equation
𝑴𝑪 =
∆𝑻𝑪
∆𝑸
or
𝑴𝑪 =
∆𝑻𝑽𝑪
∆𝑸

31. Short Run Cost Schedule
Q FC VC TC MC AFC AVC ATC
0 100 0 100 - - - -
1 100 40
2 100 78
3 100 90
4 100 211
5 100 248
6 100 300
7 100 260
8 100 355

32. Q FC VC TC MC AFC AVC ATC
0 100 0 100 - - - -
1 100 40 140 40 100 40 140
2 100 78 178 38 50 39 89
3 100 90 190 12 33 30 63
4 100 111 211 21 25 28 53
5 100 148 248 37 20 30 50
6 100 200 300 52 17 33 50
7 100 260 360 60 14 37 51
8 100 355 454 94 13 13 26

33. Relationship of TVC and TFC
0
50
100
150
200
250
300
350
400
450
500
1 2 3 4 5 6 7 8 9
FC VC TC

34. Relationship of MC to AFC, AVC, & ATC
0
20
40
60
80
100
120
140
160
1 2 3 4 5 6 7 8
MC AFC AVC ATC

35. In summary, in the short run a firm has
two options: operate or shut down. It
operates when total revenue exceeds variable
costs. But when variable costs are greater
than total revenue, it shuts down.