The document discusses the theory of producers' behavior and costs of production. It covers:
1) Production - including production functions, inputs, outputs, and the relationship between inputs and outputs.
2) Costs of production - including fixed costs, variable costs, total costs, average costs like average fixed cost, average variable cost, average total cost, and marginal cost. It discusses how these costs change in the short-run and long-run.
3) Input choices - including isoquants, marginal rate of technical substitution, returns to scale, isocost lines, and how firms choose inputs to minimize costs and maximize profits.
Measuring a nations Income
GDP
Real GDP
Nominal GDP
Circular Flow Diagram
Components of GDP
The GDP Deflator
Why Do We Care About GDP?
GDP Does Not Value:
Measuring a nations Income
GDP
Real GDP
Nominal GDP
Circular Flow Diagram
Components of GDP
The GDP Deflator
Why Do We Care About GDP?
GDP Does Not Value:
KONSEP BIAYA EKONOMI: Dalam teori ekonomi mikro, konsep opportunity cost merupakan konsep yang sangat mendasar. Seringkali opportunity cost tidak diperhitungkan dalam pengambilan keputusan-keputusan bisnis, karena diabaikannya implicit cost. Implicit cost adalah nilai dari opportunities yang dikorbankan tetapi tidak terlibat dalam an actual cash payment. Explicit costs adalah biaya-biaya yang terlibat dalam actual payment kepada pihak-pihak lain.
KONSEP BIAYA EKONOMI: Dalam teori ekonomi mikro, konsep opportunity cost merupakan konsep yang sangat mendasar. Seringkali opportunity cost tidak diperhitungkan dalam pengambilan keputusan-keputusan bisnis, karena diabaikannya implicit cost. Implicit cost adalah nilai dari opportunities yang dikorbankan tetapi tidak terlibat dalam an actual cash payment. Explicit costs adalah biaya-biaya yang terlibat dalam actual payment kepada pihak-pihak lain.
cost of production / Chapter 6(pindyck)RAHUL SINHA
topics covered
•Production and firm
•The production function
•Short run versus Long run
•Production with one variable input(Labour)
•Average product
•Marginal product
•The slopes of the production curve
•Law of diminishing marginal returns
•Production with two variable inputs
•Isoquant
•Isoquant Maps
•Diminishing marginal returns
•Substitution among inputs
•Returns to scale
•Describing returns to scale
New Explore Careers and College Majors 2024.pdfDr. Mary Askew
Explore Careers and College Majors is a new online, interactive, self-guided career, major and college planning system.
The career system works on all devices!
For more Information, go to https://bit.ly/3SW5w8W
1. Theory of Producers’ Behavior
-Production
-Cost of Production
-Profit Maximizing
1
2. Vinashin case
In 3/2003, Vinashin Jacobsen signed a
contract of providing machines for diezel
factory
3. From the first operation in 4/2007, there
were many times the mentioned factory
has to stop working for fixing.
From 10/2009, the diezel factory
terminated its work
4. All equipment sold by Jacobsen are
“secondhand” equipment dated back
1995, 1996, from Italy, Germany,
Finland, Taiwan, China and also Vietnam
5. Can you explain about the behavior of
people who lead the contract ???
Do they follow the purpose of
maximizing profit of all firms?
6. The way people organize a firm
may vary its behaviors
7.
8. Note:
The producers’ behavior may vary if the
owner and the administrator are different
Purpose of firm may vary
9. I. Production
Technology of Production
Production with One Variable Input
(Labor)
Production with Two Variable Inputs
(Labor and Capital)
Returns to Scale
Isoquant
Isocost
9
10. 1. Production Decisions of a Firm
a. Production Technology
Describe how inputs transformed into outputs
Inputs: land, labor, capital and raw materials
Outputs: cars, desks, books, etc.
Firms produce different amounts of outputs using
combinations of inputs
b. Cost Constraints
Firms consider prices of labor, capital and other
inputs
Minimize total production costs partly determined
by input prices
c. Input Choices
Given input prices and production technology, firm
chooses how much of each input to use
Given prices of inputs, firm choose combinations
of inputs to minimize costs
10
11. Technology of Production
Production Function:
Indicates highest output (q) that firm can
produce for every specified combination of
inputs
For simplicity, only labor (L) and capital (K)
Shows what is technically feasible when
firm operates efficiently
Production function for two inputs:
q = F(L,K)
11
12. Short Run
Period of time in which quantities of
one or more production factors (fixed
inputs) cannot be changed
Long Run
Time needed to make all production
inputs variable
13. 2. Production: One Variable Input
(Short-run)
Assume capital fixed and labor variable
Observations:
When labor is zero, output is zero
With additional labor, output (q) increases
initially
Beyond this, output declines
More labor becomes counterproductive
13
14. 2.1 Definitions
Average Product of Labor - Output per
unit of particular product
Measures productivity of firm’s labor in terms
of how much, on average, each worker can
produce
Output q
APL = =
Labor Input L
Marginal Product of Labor – additional
output produced when labor increases by
one unit
∆Output ∆q
MPL = =
∆Labor Input ∆L
14
15. Production: One Variable Input
Output
per
Month D
112
C Total Product
At point D, output is
60 maximized.
B
A
0 1 2 3 4 5 6 7 8 9 10 Labor per Month
15
16. Production: One Variable Input
Output •Left of E: MP > AP & AP is increasing
per •Right of E: MP < AP & AP is decreasing
Worker •At E: MP = AP & AP is at its maximum
•At 8 units, MP is zero and output is at max
30
Marginal Product
E Average Product
20
10
0 1 2 3 4 5 6 7 8 9 10 Labor per Month
16
17. 2.2 Law of Diminishing Marginal
Returns
Law of Diminishing Marginal Returns: As
input use increases with other inputs fixed,
resulting additions to output eventually decrease
When labor use is small and capital fixed,
output increases since workers specialize;
MP of labor increases
When labor use is large, some workers
become less efficient
MP of labor decreases
Explains declining marginal product, not
necessarily negative one
Technology changes cause shifts in total
product curve
More output produced with same inputs
17
19. 3.Production: Two Variable Inputs
Firm can produce output by combining
different amounts of labor and capital
In long run, capital and labor are both
variable
Information can be represented
graphically using isoquants
Curves showing all possible combinations
of inputs that yield same output
Curves are smooth to allow for use of
fractional inputs
19
20. Diminishing Returns
Capital 5
Increasing labor holding
capital constant (A, B,
C)
4 OR
Increasing capital
holding labor constant
3 (E, D, C)
A B C
D
2
q3 = 90
1 E q2 = 75
q1 = 55
1 2 3 4 5 Labor
20
21. 3.1 Isoquant
-A and B bring the same level
of quantity to the firm.
-A is the combination of more
both capital and labor.
In comparison with B, A is
less efficient.
22. Production: Two Variable Inputs
Substituting Among Inputs
Producers decide what combination of inputs to
use to produce certain quantity of output
Slope of Isoquant shows how one input can be
substituted and keep level of output the same
Negative of slope is marginal rate of technical
substitution (MRTS)
Amount by which quantity of one input
reduced when one extra unit of another input
used, so that output remains constant
22
23. Production: Two Variable Inputs
Change in Capital Input
MRTSLK =−
Change in Labor Input
MRTSLK = − ∆K ( for fixed level of q )
∆L
As labor increases to replace capital
Labor relatively less productive
Capital relatively more productive
Need less capital to keep output constant
Isoquant becomes flatter
23
25. MRTS and Marginal Products
Diminishing MRTS occurs because of diminishing
returns; implies isoquants are convex
If holding output constant, net effect of
increasing labor and decreasing capital is zero
Using changes in output from capital and labor:
( MPL )(∆L) + ( MPK )(∆K ) = 0
( MPL )(∆L) = - ( MPK )(∆K )
( MPL ) ∆K
=− = MRTS LK
( MPK ) ∆L
25
26. Isoquants: Special Cases
Two extreme cases show range of input
substitution
Perfect Substitutes
MRTS constant at all points on isoquant
Same output produced with a lot of capital or
of labor or balanced mix
Perfect Complements
Perfect fixed proportions production function
Output made with only a specific proportion
of capital and labor
Cannot increase output unless increase both
capital and labor in specific proportion
26
27. Perfect Substitutes
Capital
per A
Same output can be
month reached with mostly
capital or mostly labor (A
or C) or with equal
amount of both (B).
B
C
Q1 Q2 Q3
Labor
per month
27
28. Perfect Complements
Capital
per Same output can
month only be produced
with one set of
inputs.
Q3
C
Q2
B
K1 Q1
A
Labor per
month
L1
28
29. Returns to Scale
How does firm decide, in long run, best way
to increase output?
Can change scale of production by
increasing all inputs in proportion
If double inputs, output will most likely
increase but by how much?
Rate at which output increases as inputs
are increased proportionately
29
30. Increasing Returns to Scale
Capital
(machine •Output more than
hours) doubles when all
inputs are doubled
•e.g., Larger output
associated with
lower cost (cars)
•e.g., One firm more
4 efficient than many
(utilities)
•Isoquants get
closer together
2 20
10
Labor (hours)
5 10
30
31. Constant Returns to Scale
Capital
(machine
hours)
6
30
•Output doubles when
4 all inputs doubled
•Size does not affect
productivity
20 •May have large
number of producers
2 •Isoquants are
equidistant apart
10
Labor (hours)
5 10 15
31
32. Decreasing Returns to Scale
Capital
(machine
hours)
•Output less than
doubles when all inputs
doubled
•Decreasing efficiency
with large size
4 20 •Reduction of
entrepreneurial abilities
•Isoquants become
farther apart
2
10
5 10 Labor (hours)
32
34. - Factors explain Isocost:
- R, W constant, TC change shift the
Isocost
- TC, R constant, W change will turn the
Isocost
- TC, R constant, R change will turn the
Isocost
36. Cost Minimizing Input Choice
Isocost Line
Line showing all combinations of L and K that can
be purchased for same cost
Total cost of production is sum of firm’s labor cost,
wL, and capital cost, rK:
C = wL + rK
Price of labor: wage rate (w)
Price of capital: user cost/rental rate (r)
Rewriting:
K = C/r - (w/r)L
Slope of isocost:
-(w/r) is ratio of wage rate to rental cost of
capital
Shows rate at which capital can be substituted
for labor with no cost change 36
37. Producing Given Output at
Minimum Cost
Capital
per Q1 is isoquant for output Q1.
year There are three isocost lines, of
which 2 are possible choices in
which to produce Q1.
K2
Isocost C2 shows quantity
Q1 can be produced with
combination K2,L2 or K3,L3.
However, both
A are higher cost combinations
K1 than K1,L1.
Q1
K3
C0 C1 C2
Labor per year
L2 L1 L3
37
38. Input Substitution When an Input
Price Change
Capital
per If price of labor
year rises, isocost curve
becomes steeper due to
change in slope -(w/r).
New combination of K and L is
used to produce Q1.
B Combination B is used in
K2 place of combination A.
A
K1
Q1
C2 C1
L2 L1 Labor per year
38
39. Cost in Long Run
How does isocost line relate to
firm’s production process?
MRTSLK = - ∆K = MPL
∆L MPK
Slope of isocost line = ∆K = −w
∆L r
MPL =w when firm minimizes cost
MPK r
39
40. Cost in Long Run
Minimum cost combination can be written:
MPL = MPK
w r
Minimum cost for given output will occur when
each dollar of input added to production
process will add equivalent output
Cost minimization with varying output levels
For each output level, there is an isocost curve
showing minimum cost
Firm’s expansion path shows minimum cost
combinations of labor and capital at each output
level
Slope equals ∆K/∆L
40
41. All firms, from Delta Air Lines to your
local deli, incur costs as they make the
goods and services that they sell.
As we will see in the coming chapters, a
firm’s costs are a key determinant of its
production and pricing decisions.
Establishing what a firm’s costs are,
however, is not as straightforward as it
might seem
41
42. I. Cost of Production
A. Cost of Production in Short-run
2. FC, VC and TC
a. FC-fixed cost
48. Notes:
- MC intersects with AVC at the minimum
point of AVC
- MC intersects with ATC at the minimum
point of ATC
49. B. Long-run Cost of Production
1. Long-run Total Cost - LTC
In long-run there is no cost can be
considered as fixed cost.
All of the cost are variable
50. Firm’s Expansion Path
Capital
per Expansion path illustrates
least-cost combinations of
year
labor and capital that can be
150 $3000 used to produce each level of
output in long-run.
Expansion Path
$2000
100
C
75
B
50 $1000
300 Units
A
25
200 Units
100 Units
Labor per year
50 100 150 200 300
50
51. Firm’s Long Run Total Cost Curve
Cost/
Year
Long Run Total Cost
F
3000 •To move from
expansion path to LR
cost curve
E •Find tangency with
2000 isoquant and isocost
•Determine min cost of
producing output level
D selected
1000 •Graph output-cost
combination
Output, Units/yr
100 200 300
51
52. Long Run Versus Short Run Cost
Curves
In short run, some costs fixed
In long run, firm can change
anything including plant size
Can produce at lower average cost
Capital and labor flexible
Show this by holding capital fixed in
short run and flexible in long run
52
53. Inflexibility of Short Run Production
Capital E Capital is fixed at K1.
per To produce Q1, min cost at K1,L1.
year
C If increase output to Q2, min cost
is K1 and L3 in short run.
In LR, can
Long-Run
change
Expansion Path
A capital and
min costs
falls to K2 and
K2 L2.
Short-Run
P Expansion Path
K1 Q2
Q1
Labor per year
L1 L2 B L3 D F
53
54. Production with Two Outputs –
Economies of Scope
Firms produce multiple products that are linked
Advantages:
Both use capital and labor
Firms share management resources
Same labor skills and types of machinery
Alternative quantities produced illustrated using
product transformation curves
Product transformation curves negatively sloped since
to get more of one output, must give up some of other
Product transformation curves are concave if joint
production has advantages
54
55.
56. 2.Long-run Average Total Cost -
LATC
LTC
LATC =
Q
- The shape of LATC depends on the
return on scale of each production
process
57. Long Run Versus
Short Run Cost Curves
Long-Run Average Cost (LAC)
Determinant of shape of LAC and LMC is
relationship between scale of firm’s
operation and cost-minimizing inputs
2. Constant Returns to Scale
If input doubled, output doubles
AC cost is constant at all levels of output
3. Increasing Returns to Scale
If input doubled, output more than doubles
AC decreases at all levels of output
4. Decreasing Returns to Scale
If input doubled, output less than doubles
AC increases at all levels of output
57
65. Long Run Average and Marginal
Cost
Cost •If LMC < LAC,
($ per unit LAC will fall
of output) LMC •If LMC > LAC,
LAC will rise
LAC •LMC = LAC at
the minimum of
LAC
•In special case
where LAC is
constant, LAC
A and LMC are
equal
Output
65
66. Long Run Costs
As output increases, firm’s AC of producing is
likely to decline
1. On larger scale, workers specialize
2. Scale can provide flexibility, managers organize
production effectively
3. Quantity discounts for inputs, lower prices lead to
different input mix
At some point, AC begins to increase
1. Factory space and machinery make it difficult for
efficient work
2. Managing larger firm may become more complex
and inefficient as tasks increase
3. Limited input availability may cause price
increases
66
67. Long Run Costs
Economies of scale reflects input proportions
that change as firm changes production level
Economies of Scale
Increase in output greater than increase in
inputs
Diseconomies of Scale
Increase in output less than increase in
inputs
U-shaped LAC shows economies of scale for
relatively low output levels and diseconomies
of scale for higher levels
67
68. Long Run Costs
Economies of scale measured in terms of cost-output
elasticity, EC
EC is percentage change in production cost resulting
from 1-percent increase in output
EC = ∆C C = MC
∆Q Q AC
EC is equal to 1, MC = AC
Costs increase proportionately with output
Neither economies nor diseconomies of scale
EC < 1 when MC < AC
Economies of scale
Both MC and AC are declining
EC > 1 when MC > AC
Diseconomies of scale
Both MC and AC are rising 68
69. Long Run Cost with Economies
and Diseconomies of Scale
69
70. Long Run Cost with
Constant Returns to Scale
What is firm’s long run cost curve?
Firms can change scale to change output
in long run
Long run cost curve represents minimum
cost for any output level
Firm choose plant that minimizes
average cost of production
Long-run average cost curve envelops
short-run average cost curves
LAC curve exhibits economies of scale
initially but diseconomies at higher
output levels
70
71. IV. Profit
1. Definitions
Profit
a.
There are some circumstances
that the enterprise does not
want to have profit
72. Marginal Revenue, Marginal Cost,
and Profit Maximization
Can study profit maximizing output for any
firm, whether perfectly competitive or not
Profit (π) = Total Revenue - Total Cost
π (q) = R(q) − C (q)
If q is output of firm:
TotalRevenue (R) = Pq
Total Cost (C) = C(q)
Firm selects output to maximize difference
between revenue and cost
72
73. Marginal Revenue, Marginal Cost,
and Profit Maximization
Slope of revenue curve is marginal revenue
Change in revenue from one-unit
increase in output
Slope of total cost curve is marginal cost
Additional cost of producing additional
unit of output
Profit is negative to start since revenue is
not large enough to cover fixed and
variable costs
As output rises, revenue rises faster than
costs
73
74. Profit Maximization – Short Run
Profits are maximized where MR (slope at
Cost, A) and MC (slope at B) are equal
Revenue,
Profit Profits are
C(q)
($s per maximized
year) where R(q) –
A C(q) is
R(q) maximized
B
0 Output
q0 q*
π(q)
74
75. Marginal Revenue, Marginal Cost,
and Profit Maximization
Profit maximized at point at which
additional increment to output
leaves profit unchanged
π = R −C
∆π ∆R ∆C
= − = MR − MC = 0
∆q ∆q ∆q
MR = MC
75
76. b. Accounting and Economic Profit
- Accounting profit
- Economic profit
c. MR (Marginal Revenue)
77. Exercise
Josh, a second year MBA student, takes
three hours off one evening and uses his
car to go to a movie with a friend. A
ticket to the movie costs Josh $5, gasoline
for the trip costs $1, and Josh passed up
tutoring a student that night at $10 an
hour. He could also have used the three
hours to work as a grader for a professor
at $15 an hour. What is Josh’s economic
cost of going to the movie?
77
79. Production with Two Outputs –
Economies of Scope
Degree of economies of scope (SC) measured
by percentage of cost saved producing two or
more products jointly:
C(q1 ) + C(q2 ) − C(q1 ,q2 )
SC =
C(q1 ,q2 )
C(q1) is cost of producing q1
C(q2) is cost of producing q2
C(q1,q2) is joint cost of producing both products
Interpretation:
If SC > 0 Economies of scope
If SC < 0 Diseconomies of scope
Greater value of SC, greater economies of scope
79
Editor's Notes
4
5
23
27
32
53
14
57
59
60
63
64
66
74
75
75
75
43
52
55
56
57
72
72
73
77
105
78
85
102
103
10
5+1+3(15)=$51 Only use highest valued use of his time for opportunity cost, ignore tutoring job.