3. How much will a firm supply?
Profit maximisation
Increase revenue by selling more
Increase revenue by selling the same quantity at a
higher price
Reduce costs (costs of production)
4. Production
Short-run and long-run changes in production
fixed factors of production and variable factors of
production (inputs)
the short run - at least 1 fixed input
the long run - all inputs variable
5. Production in the short run
The Law of Diminishing Returns
When one or more factors are held fixed,
there will come a point beyond which the
extra output from additional units of the
variable factor will diminish
7. Production function
The quantity of output a firm produces depends on
the quantity of inputs
Total product (TP) - total quantity of output
produced by a firm for a given quantity of inputs
Marginal product (MP) – the additional quantity of
output that is produced by using one more unit of that
input
8. Production Function - Schedule
Quantity Quantity Marginal product of
of labour L of wheat Q labour. MPL = ΔQ/ΔL
(workers) (bushels) [TP] (bushels per worker)
0 0
19
1 19
17
2 36
15
3 51
13
4 64
11
5 75
9
6 84
7
7 91
5
8 96
MPL =
ΔQ/ΔL
10. Short-run Costs
For a firm to produce more outputs, more inputs are
needed
Costs and output
The greater the productivity of factors of production,
the lower the costs of production
The higher the price of the factors of production, the
higher the costs of production
11. Short-run costs
Fixed and Variable costs
A fixed cost does not depend on the quantity
of output produced. It is the cost of the fixed
input
A variable cost is a cost that depends on the
quantity of output produced. It is the cost of
the variable input.
12. Short-run costs
Total Cost (TC)
The total cost of producing a given quantity of output is
the sum of the fixed cost and the variable cost of
producing that quantity of output
Total fixed cost (TFC)
Total variable cost (TVC)
Total cost (TC = TFC + TVC)
13. Short-run costs
Average (total) cost (AC)
Average cost is total cost divided by the quantity of
output produced; it is equal to total cost per unit. So AC
= TC/Q
average fixed cost (AFC = TFC/Q)
average variable cost (AVC = TVC/Q)
average (total) cost (TC/Q = AFC + AVC)
14. Short-run costs
The marginal cost of an activity is the additional cost
incurred by doing one more unit of that activity
Marginal cost = MC = ΔTC/ΔQ
= change in total cost generated by one
additional unit of output
15.
16.
17.
18.
19.
20.
21.
22.
23. Average and Marginal Cost Curves
Marginal cost (MC)
Marginal cost and the law of diminishing returns
Average cost (AC)
Average fixed cost (AFC)
Average variable cost (AVC)
Average total cost (AC)
Relationship between MC and AC
26. Marginal cost curve
Upward sloping. Why?
Because of diminishing returns
As more and more of the variable factor is used, extra
units of output cost less than previous units. MC
falls.
Then, beyond a certain level of output, diminishing
returns set in and MC rises.
27. Average Total Cost Curve
AC depends on the shape of MC. Why?
As new units of output cost less than average, their
production must pull the average cost down.
If MC less than AC, AC must be falling
If new units cost more than average their production
must drive the average up.
If MC greater than AC, AC must be rising.
So MC crosses AC at the minimum point
28. Average Fixed cost
Downward sloping. Why?
Because of ‘spreading effect’
The larger the output, the more production that can
‘share’ the fixed cost and so lower the average cost.
It falls continuously as output rises, since total fixed
costs are being spread over greater and greater output
29. Average variable cost
Upward sloping. Why?
Diminishing returns, but flatter than MC. Why?
It rises as output increases
Because the higher cost of an additional unit of
output is averaged across all units, not just the
additional units. AVC is the vertical difference
between AC and AFC. As AFC gets less the gap
between AVC and AC narrows.
