The total cost of choosing one action over another. The economic cost includes the accounting cost, or actual funds spent carrying out the action, and the opportunity cost, or the amount of money that could have been made by using funds and other resources dedicated to the action on some other objective. Economic cost is the combination of gains and losses of any goods that have a value attached to them by any one individual. Economic cost is used mainly by economists as means to compare the prudence of one course of action with that of another.

1. Costs
Chapter 8-1
(my version of it)

2. Laugher Curve
A woman hears from her doctor that she
has only half a year to live.
The doctor advises her to marry an
economist and to move to South Dakota.

3. Laugher Curve
“Will this cure my illness?” she asked.
No, but the half year will seem pretty
long.”

4. Introduction
• In the supply process, people first offer
their factors of production to the market.
• Then the factors are transformed by firms
into goods that consumers want.
– Production is the name given to that
transformation of factors into goods.

5. The Role of the Firm
• The firm is an economic institution that
transforms factors of production into
consumer goods – it:
– Organizes factors of production.
– Produces goods and services.
– Sells produced goods and services.

6. – Virtual firms subcontract out all work.
– More and more of the organizational structure
of business is being separated from the
business.
The Role of the Firm
• A virtual firm only organizes production.
Not in the book but something to think about!

7. The Firm and the Market
• Firms are the production organizations
that translate factors of production into
consumer goods.

8. Production Tables and
Production Functions
• A production table shows the output
resulting from various combinations of
factors of production or inputs.

9. Production Tables and
Production Functions
• Marginal product is the additional output
that will be forthcoming from an additional
worker, other inputs remaining constant.

10. Production Tables and
Production Functions
• Average product is calculated by dividing
total output by the quantity of the output.
Not in the text but an important conceptimportant concept to understand Average Cost later!

11. Production Tables and
Production Functions
• Production function – a curve that
describes the relationship between the
inputs (factors of production) and outputs.

12. Production Tables and
Production Functions
• The production function tells the maximum
amount of output that can be derived from
a given number of inputs.

13. A Production Table
Number of
workers Total output Marginal
product
Average
product
4
6
7
6
5
3
1
0
2
5
1
2
3
4
5
6
7
8
9
10
0
4
5
5.7
5.8
5.6
5.2
4.6
4.0
3.3
2.5
—
4
10
17
23
28
31
32
32
30
25
0

14. Output
32
30
28
26
24
22
20
18
16
14
12
10
8
6
4
2
0
1 2 3 4 5 6 7 8 9 10
Number of workers
TP
Outputperworker
1 2 3 4 5 6 7 8 9 10
Number of workers
7
6
5
4
3
2
1
0
MP
(a) Total product (b) Marginal and average product
AP
A Production Function

15. The Law of Diminishing
Marginal Productivity
• Both marginal and average productivities
initially increase, but eventually they both
decrease.

16. The Law of Diminishing
Marginal Productivity
• This means that initially the production
function exhibits increasing marginal
productivity.
• Then it exhibits diminishing marginal
productivity.
• Finally, it exhibits negative marginal
productivity.
Not iN your bookNot iN your book
Not iN your bookNot iN your book
this is iN your book!this is iN your book!

17. The Law of Diminishing
Marginal Productivity
• The most relevant part of the production
function is that part exhibiting diminishing
marginal productivity.

18. The Law of Diminishing
Marginal Productivity
• Law of diminishing marginal
productivity – as more and more of a
variable input is added to an existing
fixed input, after some point the additional
output one gets from the additional input
will fall.
Fixed input

19. The Law of Diminishing
Marginal Productivity
Number of
workers
Total
output
Marginal
product
Average
product
Increasing
marginal returns
Diminishing
marginal returns
Diminishing
absolute returns
4
6
7
6
5
3
1
0
2
5
1
2
3
4
5
6
7
8
9
10
0
4
5
5.7
5.8
5.6
5.2
4.6
4.0
3.3
2.5
—
4
10
17
23
28
31
32
32
30
25
0

20. Output
Diminishing
marginal
returns
Diminishing
absolute
returns
32
30
28
26
24
22
20
18
16
14
12
10
8
6
4
2
0
1 2 3 4 5 6 7 8 9 10
Increasing
marginal
returns
Number of workers
TP
Outputperworker
1 2 3 4 5 6 7 8 9 10
Number of workers
7
6
5
4
3
2
1
0
MP
Diminishing
marginal
returns
Diminishing
absolute
returns
(a) Total product (b) Marginal and average product
AP
The Law of Diminishing
Marginal Productivity

21. The Law of Diminishing
Marginal Productivity
• This law is also called the flower pot law.
• If it did not hold true, the world’s entire
food supply could be grown in a single
flower pot.