40
fig Production and Production and Costs Costs in the in the Short Run Short Run
fig
Production and Production and Costs Costs in the in the Short RunShort Run
Aims
The main aim of the producer is to make a profit
Firms will be interested in the costs of production as well as revenue
Costs Costs involve payment to those who have
provided the resourcesRent for landWages for workers Interest to the bankOwner’s enterprise: normal profit
the return the entrepreneur can expect to earn or the profit that a business owner considers
necessary to make running the business worth his/her while
In the short run …
In the short run, because at least one factor of production is fixed, output can be increased only by adding more variable factors
Costs
Fixed costs do not vary with output. Even if output is 0 these costs must be paid Rent Rates Interest on loans Insurance Depreciation …
ALSO CALLED OVERHEADS
A change in fixed cost does not affect marginal costs
Costs
Variable costs vary with the level of productionRaw materialsFuelWages (not always)
WHEN OUTPUT IS ZERO VC = 0
Total costs for firm XTotal costs for firm X
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TFC
Output(Q)
01234567
TFC(£)
1212121212121212
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TVC
TFC
Output(Q)
01234567
TFC(£)
1212121212121212
TVC(£)
010162128406091
Total costs for firm XTotal costs for firm X
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TC
TVC
TFC
Output(Q)
01234567
TFC(£)
1212121212121212
TVC(£)
010162128406091
TC(£)
12222833405272
103
Total costs for firm XTotal costs for firm X
0
20
40
60
80
100
0 1 2 3 4 5 6 7 8
TVC
TFC
Diminishing marginal returnsset in here
TC
Total costs for firm XTotal costs for firm X
Draw the curvesOutput
(units)
Per week
Fixed Costs
(FC)
Variable Cost
(VC)
Total Cost
(TC
0
1
2
3
4
5
6
7
8
9
10
50
50
50
50
50
50
50
50
50
50
50
0
30
50
60
70
90
120
160
220
300
400
50
80
100
110
120
140
170
210
270
350
450
fig
Wheat production per year from a particular farm
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Number of farm workers
To
nne
s o
f wh
eat
pro
du
ced
pe
r ye
ar
Number of workers
012345678
Total Output
0 310243640424240
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Number of farm workers
To
nne
s o
f wh
eat
pro
du
ced
pe
r ye
ar Total Output
Wheat production per year from a particular farm
Production in the Short Run
Number of Workers
012345678
Total Output
0 310243640424240
MarginalOutput
3 71412 4 2 0-2
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Wheat production per year from a particular farm
Number offarm workers (L)
Ton
nes
of w
heat
per
yea
r
Total Output
Ton
nes
of w
heat
per
yea
r
Number offarm workers (L)
Total Output = 7
L = 1
Marginal Output = TQ/ L = 7
-2
0
2
4
6
8
10
12
14
0 1 2 3 4 5 6 7 8
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Total Output
-2
0
2
4
6
8
10
12
14
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Marginal Output
Number offarm workers (L)
Number offarm workers (L)
Wheat production per year from a particular farm
Number of Workers
012345678
MarginalOutput
3 71412 4 2 0-2
Production in the Short Run
Number of Workers
012345678
Total Output
0 310243640424240
AverageOutput
035898765
Production in the Short run
The short-run production function: the graphical relationship between
total output average output, and marginal output
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Total Output
-2
0
2
4
6
8
10
12
14
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Average Output
Marginal Output
Marginal Output = TQ/ L
Number offarm workers (L)
Number offarm workers (L)
Wheat production per year from a particular farm
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Total Output
-2
0
2
4
6
8
10
12
14
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Average Output
Marginal Output
b
Diminishing returnsset in here
Number offarm workers (L)
Number offarm workers (L)
b
Wheat production per year from a particular farm
fig
0
10
20
30
40
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Total Output
-2
0
2
4
6
8
10
12
14
0 1 2 3 4 5 6 7 8
Ton
nes
of w
heat
per
yea
r
Average Output
Marginal Output
b
d
d
Number offarm workers (L)
Number offarm workers (L)
Maximumoutputb
Wheat production per year from a particular farm
Draw the curvesOutput
(units)
Per week
Fixed Costs
(FC)
Variable Cost
(VC)
Total Cost
(TC
0
1
2
3
4
5
6
7
8
9
10
50
50
50
50
50
50
50
50
50
50
50
0
30
50
60
70
90
120
160
220
300
400
50
80
100
110
120
140
170
210
270
350
450
Total Costs
TC = VC + FCCosts
Output
Use the same information
Calculate and draw:Average Fixed Cost curveAverage Variable Cost curveAverage Total Cost curve
Homework page 54 in notes booklet
Explain shape of AFC
Explain shape of AVC
Average Cost Curve Falling Costs
Constant Costs
Rising Costs
Marginal Cost
The extra cost of producing one more unit of output
Costs which change when output changes are variable costs – NOT FIXED COSTS
MC = the additional VC when one extra unit is producedNOW PLOT MARGINAL COST ON YOUR
CURVE
Costs in the Short Run
Output(Q)
01234567
TVC(£)
010162128406091
TC(£)
12222833405272
103
MC(£)
10657
122031
fig
Marginal costMarginal cost
Output (Q)
Co
sts
(£)
MC
x
fig
Marginal costMarginal cost
Output (Q)
Co
sts
(£)
MC
xDiminishing Returns start
at X
Diminishing Returns Defined
In the short run, the law of diminishing returns states that as we add more units of a variable input (i.e. labour or raw materials) to fixed amounts of land and capital, the change in total output will at first rise and then fall
Diminishing returns to labour occurs when marginal product of labour starts to fall. This means that total output will still be rising – but increasing at a decreasing rate as more workers are employed
Costs in the Short Run
Output(Q)
01234567
TVC(£)
010162128406091
AverageVariable Cost (£)
-108778
1013
figOutput (Q)
Co
sts
(£)
MC
x
AVC
y
Average and marginal costs
Average and marginal costs
Costs in the Short Run
Output(Q)
01234567
TFC(£)
1212121212121212
AFC(£)
-12
643
2.42
1.7
figOutput (Q)
Co
sts
(£)
MC
x
y
AFC
AVCAverage and marginal costsAverage and marginal costs
Costs in the Short Run
Output(Q)
01234567
TC(£)
12222833405272
103
AverageCost (£)
-22141110
10.412
14.7
figOutput (Q)
Co
sts
(£)
AFC
AVC
MC
x
AC
y
z
Average and marginal costs
Relationship between Marginal and Average Costs
Both are U shaped, MC is steeperWhen MC is below AC, AC is fallingWhen MC is above AC, AC is risingWhen the curves cross MC=AC
This is the optimum point
The marginal cost curve cuts the AVC and AC curves at their lowest point
Production in the Short run
Periods of Supply, not time- Short-run :
production capacity is fixed fixed and variable factors of production
at least one factor is fixed e.g. land others can be changed e.g. labour
The long run:All factors become variable
