cost analysis & price output decisions

1. Course: BBA
Subject: Business Economics
Unit: 4
Cost Analysis & Price Output
Decisions

2. Syllabus content
• Market: Meaning of Market, Types of Market and
their important features: Perfect Competition,
Monopoly, Monopolistic Competition and
Oligopoly.
• Cost: Concept of Cost, Cost Function, Short Run
Cost, Long Run Cost, Economies and
Diseconomies of Scale, Explicit Cost and Implicit
Cost, Private and Social Cost.
• Pricing: Under Perfect Competition, Pricing Under
Monopoly, Control of Monopoly, Price
Discrimination, Pricing Under Monopolistic
Competition, Pricing Under Oligopoly.

3. What is market?
• Market is a place, where the buyers and the
sellers of a good are in contact with each
other.
• This contact may be direct or indirect.

9. Check Your Understanding

13. COST ANALYSIS

14. What is cost???
• Cost means the amount of money that a
company spends on the creation or
production of goods or services

15. "short run” and "long run"
• The difference between the short run and the
long run is the flexibility decision makers have
• Short run: period of time in which the
quantity of at least one input is fixed and the
quantities of the other inputs can be varied.
• Long run: period of time in which the
quantities of all inputs can be varied.

16. "short run cost” and "long run cost"
• short run cost: The costs which incurred over
the short run
• long run cost: The costs which incurred over
the long run

17. Explicit Cost and Implicit Cost
• Explicit Cost: Business expense that is easily
identified and accounted for.
• For Example: wage expense, rent or lease costs,
and the cost of materials
• Implicit costs can also be thought of as intangible
costs that are not easily accounted for.
• For example, the time and effort that an owner
puts into the maintenance of the company, rather
than working on expansion, can be viewed as an
implicit cost of running the business.

18. Economies of Scale
• Economics of Scale exist when the production
cost of a single product decreases with the
number of unit produced
• Economies of scale is about the benefits gained
by the production of large volume of a product
• In business, economies of scale are usually
considered in relation to specific areas of the
production process, which may be technical,
managerial, marketing, finance, and risk bearing .

19. Diseconomies of scale
• Diseconomies of Scale exist when the production
cost of a single product increases with the
number of unit produced
• Diseconomies of scale is about the disadvantages
faced by the production of large volume of a
product
• In business, diseconomies of scale are usually due
to Decision making, Managerial problems,
Communication problems, Co-ordination/control
problems, Staffing problems

20. Private cost and social cost
• Private cost: Monetary cost, which a firm
incurs in the production of a good.
• Social Cost: Real cost, which the society incurs
in the production of a good. For example-
Pollution from a factory

21. Cost Function
• Cost is dependent on some factors. These factors make
cost function.
• Short Run Cost function
C=f (X, Pf ,T,K)
• Long Run Cost function
C=f (X, Pf ,T)
Here C=Cost
X=Output
Pf =Price of Factor
T= Technology
K=Capital

22. EXAMPLE 1
11,000
9,000
7,000
5,000
3,000
1,000
Total
Cost(Rs.)
30005
28004
24003
18002
10001
10,000
8,000
6,000
4,000
2,000
0
1,000
1,000
1,000
1,000
1,000
1,00000
Cost of
labor(Rs.)
Fixed
Cost(Rs)
Q
(Quantity
of Pens)
L
(no. of
workers)

23. Total Cost Curve
0
2000
4000
6000
8000
10000
12000
0 1000 2000 3000
Totalcost(Rs.)
Quantity of Pen

24. Marginal Cost
• Marginal Cost (MC)
is the increase in Total Cost from
producing one more unit:
∆TC
∆Q
MC =

25. Total and Marginal Cost
10.00
5.00
3.33
2.50
2.00
Marginal
Cost (MC)
11,000
9,000
7,000
5,000
3,000
1,000
Total
Cost
3000
2800
2400
1800
1000
0
Q
∆Q = 1000 ∆TC = 2000
∆Q = 800 ∆TC = 2000
∆Q = 600 ∆TC = 2000
∆Q = 400 ∆TC = 2000
∆Q = 200 ∆TC = 2000

26. Marginal Cost Curve
$0
$2
$4
$6
$8
$10
$12
0 500 1,000 1,500 2,000 2,500 3,000
MarginalCost($)
Q

27. Costs
7
6
5
4
3
2
1
620
480
380
310
260
220
170
$100
520
380
280
210
160
120
70
$0
100
100
100
100
100
100
100
$1000
TCVCFCQ
$0
$100
$200
$300
$400
$500
$600
$700
$800
0 1 2 3 4 5 6 7
Q
Costs
FC
VC
TC

28. Average Variable Cost
5207
3806
2805
2104
1603
1202
701
74.29
63.33
56.00
52.50
53.33
60
$70
n/a$00
AVCVCQ Average variable cost (AVC)
is variable cost divided by the
quantity of output:
AVC = VC/Q
As Q rises, AVC may fall initially. In
most cases, AVC will eventually rise
as output rises.
$0
$25
$50
$75
$100
$125
$150
$175
$200
0 1 2 3 4 5 6 7
Q
Costs

29. Usually, as in this example, the
ATC curve is U-shaped.
$0
$25
$50
$75
$100
$125
$150
$175
$200
0 1 2 3 4 5 6 7
Q
Costs
Average Total Cost
88.57
80
76
77.50
86.67
110
$170
n/a
ATC
6207
4806
3805
3104
2603
2202
1701
$1000
TCQ

30. The Various Cost Curves Together
AVC
ATC
MC
$0
$25
$50
$75
$100
$125
$150
$175
$200
0 1 2 3 4 5 6 7
Q
Costs

31. Total, Average, Marginal Revenue for
competitive firm

32. Pricing under Perfect Competition
Diagrammatic representation
Cost/Revenue
Output/Sales
P = MR = AR
MC
AC
Q1

33. Total, Average, Marginal Revenue for
Monopoly

34. %
Pricing under Monopoly
QuantityQ Q0
Costs and
Revenue
Demand
Average total cost
Marginal revenue
Marginal
cost
Monopoly
price
QMAX
B
1. The intersection of the
marginal-revenue curve
and the marginal-cost
curve determines the
profit-maximizing
quantity . . .
A
2. . . . and then the demand
curve shows the price
consistent with this quantity.

35. Controlling Monopoly
• Government may regulate the prices that the
monopoly charges(Examples: CNG, PNG prices)
• Rather than regulating a natural monopoly that is
run by a private firm, the government can run the
monopoly itself (Example: Railway)
• Government can do nothing at all if the market
failure is deemed small compared to the
imperfections of public policies.

36. PRICE DISCRIMINATION
• Price discrimination is the business practice of selling
the same good at different prices to different customers,
even though the costs for producing for the two
customers are the same
• Price discrimination is not possible when a good is sold
in a perfect competitive market because there are
many firms all selling at the market price.
• For price discrimination, the firm must have some
market power.
• Perfect Price Discrimination
– Perfect price discrimination refers to the situation when
the monopolist knows exactly the willingness to pay of
each customer and can charge each customer a different
price.

37. PRICE DISCRIMINATION
• Examples of Price Discrimination
– Movie tickets
– Airline prices
– Discount coupons
– Financial aid
– Quantity discounts

38. Total Revenue for Oligopoly

39. GAME THEORY AND THE ECONOMICS
OF COOPERATION
• Game theory is the study of how people
behave in strategic situations.

40. The Prisoners’ Dilemma
Bonnie’ s Decision
Confess
Confess
Bonnie gets 8 years
Clyde gets 8 years
Bonnie gets 20 years
Clyde goes free
Bonnie goes free
Clyde gets 20 years
gets 1 yearBonnie
Clyde gets 1 year
Remain Silent
Remain
Silent
Clyde’s
Decision

41. Jack and Jill Oligopoly Game
Copyright©2003 Southwestern/Thomson Learning
Jack’s Decision
Sell 40
Gallons
Sell 40 Gallons
Jack gets
$1,600 profit
Jill gets
$1,600 profit
Jill gets
$2,000 profit
Jack gets
$1,500 profit
Jill gets
$1,500 profit
Jack gets
$2,000 profit
Jill gets
$1,800 profit
Jack gets
$1,800 profit
Sell 30 Gallons
Sell 30
Gallons
Jill’s
Decision

42. 42
Pricing in A Monopolistically Competitive
Firm in the Short Run
MR1
$70
30
250
d1
A MC
ATC
Dollars
Homes Serviced per Month
2. and charges $70
per home.
4. Kafka's monthly
profit–$10,000–is
the area of the
shaded rectangle.
1. Kafka services 250 homes
per month, where MC and
MR intersect . . .
3. ATC at 250 units is less
than price, so profit per
unit is positive.

43. 43
Pricing in A Monopolistically Competitive
Firm in the Long Run
d2MR2
E
MC
$40
100 250
Dollars
Homes Serviced per
Month
ATC
MR1
In the long run, profit attracts
entry, which shifts the firm's
demand curve leftward.
The typical firm
produces where
its new MR
crosses MC.
d1
Entry continues until P = ATC at
the best output level, and
economic profit is zero.