The document discusses various cost concepts including explicit and implicit costs, fixed and variable costs, average and marginal costs. It also covers short-run and long-run cost analysis, different types of returns to scale, as well as concepts related to revenue and profit like total revenue, average revenue, marginal revenue, economic profit and the profit maximization condition.
The document discusses various cost concepts including explicit and implicit costs, fixed and variable costs, average and marginal costs. It also covers short-run and long-run cost analysis, different types of returns to scale, as well as concepts related to revenue and profit like total revenue, average revenue, marginal revenue, economic profit and the profit maximization condition.
The document discusses various cost concepts including explicit and implicit costs, fixed and variable costs, average and marginal costs. It also covers short-run and long-run cost analysis, different types of returns to scale, as well as concepts related to revenue and profit like total revenue, average revenue, marginal revenue, economic profit and the profit maximization condition.
The document discusses various cost concepts including explicit and implicit costs, fixed and variable costs, average and marginal costs. It also covers short-run and long-run cost analysis, different types of returns to scale, as well as concepts related to revenue and profit like total revenue, average revenue, marginal revenue, economic profit and the profit maximization condition.
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HELEN A.
MACAILING
THEORY COST Faculty, AgEcon Department
College of Business, Development Economics and
AND PROFIT Management
COST CONCEPTS FACTORS OF FACTOR PRODUCTION PAYMENT Cost of production refers to the Land Rent total payment by a firm to the Labor Wage or Salary owners of the factors of production. Capital Interest Opportunity cost is the value of the foregone opportunity or Entrepreneurship Profit alternative benefits. Explicit vs. Implicit Costs Explicit cost (Visible Cost). It is the actual (explicit) expenditures made by the firm (that is usually thought of as its only expenses). Implicit cost (Invisible cost). It is the cost of self-owned, self-employed resources frequently overlooked in computing the expenses of the firm. Short run and Long run viewpoints Short run. It is the planning period of the firm so short that some resources can be classified as fixed while some are considered as variable. Long run. It is the planning period of the firm so long that all resources eventually become variable. 1. Fixed Cost. It is the kind of cost which remains constant regardless of the level (or volume) of production.
Short-Run Total Fixed Cost (TFC) -the
summation of all the fixed costs incurred by a firm in its production Cost 2. Variable Cost. It is the kind of cost which changes in proportion to the level (or
Analysis volume) of production.
Total Variable Cost (TVC) is the totality of all the variable costs spent by the firm in its production. 3. Total Cost – sum of Total Fixed Cost (TFC) and Total Variable Cost (TVC). TCTFC + TVC Short-Run Cost Analysis Average Fixed Cost (AFC) refers to the fixed cost per unit at various levels of output. This is obtained by dividing the TFC by the output (Q).
Average Variable Cost (AVC) is the variable cost per unit of output. This can be obtained in two ways: Short-Run Cost Analysis Average Cost (AC) is also called unit cost. Total Cost per unit of various levels of output.
or
Marginal Cost (MC) is the additional or extra cost brought about by producing one additional unit of output. Also, this is known as the slope of the TC. Table 1. Costs and Output Schedules
cost (LAC) of producing a Long run is a time period given level of output is always wherein all fixed factors can be the lowest point of the short-run variable. average total cost of producing that output. Long-run Average Cost Curve and Scales of Production Increasing returns to scale, or economies of scale - an increase in a firm’s scale of production leads to a lower average costs. Constant returns to scale - average costs do not change with the scale of production at the optimum operation. decreasing returns to scale, or diseconomies of scale - an increase in a firm’s scale of production leads to a higher average costs PROFIT CONCEPTS Total Revenue, Average and Marginal Revenues
Total revenue (TR) is the payment for the output by the firm. This represents the income of the firm. It is obtained by multiplying the price (P) and the output (Q) produced.
TR = P x Q
Average revenue (AR) is the revenue per unit of output of the firm.
Marginal Revenue (MR) is the additional income of a firm obtained by producing and selling one additional unit of product. It is also equivalent to the slope of the TR and the price under the perfect competition. The mathematical formula to derive MR is as follows: The Revenue Schedule (Price=10) Units of Output (Q or TP) TR AR MR 0 0 - 10 6 60 10 10
62 620 10 THE TOTAL, AVERAGE, AND MARGINAL REVENUE Business Profit versus Economic Profit Business profit refers to the difference between total revenue and explicit cost while Economic profit is the difference between total revenue (TR) and both explicit and implicit costs. Profit maximization involves the comparison of TR and TC. The mathematically: π = TR – TC The rule is simple, a positive difference indicates profit (π > 0), a negative difference means a loss (π < 0); and when π = 0, it suggests break-even or TR is equal to TC. Hypothetical Data of a Firm’s Total Cost and Total Revenue (Price = 16) Points Quantity (Q) Total Revenue Total Cost Profit (π) (1) (2) (TR) (TC) (5) (3) (4) A 0 0 1600 -1600 B 100 1,600 2800 -1200 C 200 3,200 4000 -800 D 300 4,800 5200 -400 E 400 6,400 6400 0 F 500 8,000 7600 400 G 600 9,600 8800 800 H 700 11,200 10000 1200 I 800 12,800 11200 1600 The Linear Total Cost and Total Revenue with the Break-even point The Profit Maximization Condition
A competitive firm takes the market price as constant. If the
firm wants to maximize profits, the optimum level of production in the short-run (Q*) is when its marginal cost, that is the short-run industry supply curve, is equal to its price (since in a competitive market, price is also equal to marginal revenue).
• MC = P = MR = AR Graphical illustration of Profit Maximization Condition Thank you!
