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Principles of Economics

by: Abraham Schoen

Principles of Economics ECON 2102

Abraham Schoen
GPA 3.78

Carol Stivender

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Carol Stivender
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This 44 page Class Notes was uploaded by Abraham Schoen on Sunday October 25, 2015. The Class Notes belongs to ECON 2102 at University of North Carolina - Charlotte taught by Carol Stivender in Fall. Since its upload, it has received 62 views. For similar materials see /class/229017/econ-2102-university-of-north-carolina-charlotte in Economcs at University of North Carolina - Charlotte.


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Date Created: 10/25/15
6 The Costs of Production Profits like sausages are esteemed most by those who know least about what goes into them Alvin Toffer The Production Function I It takes factors of production to produce a good or service no matter what the good is 0 Factors of production Resource inputs used to produce goods and services such as land labor capital enterprise The Production Function Production function technological relationship expressing the maximum quantity of a good attainable from different combinations of factor inputs 0 Purpose to tell us just how much output we can produce with varying amounts of factor inputs I Productivity output per unit A Production Function Y LK Labor Input 01112131415161718 Capital Input Jean Output 0 O O O O O O O O O 1 O 15 34 44 48 5O 51 51 47 2 0 2O 46 64 72 78 81 82 8O 3 O 21 5O 73 83 92 99 103103 Efficiency I The production function represents the maximum technical efficiency I Efficiency technical maximum output of a good from the resources used in production ShortRun Constraints I Shortrun at least one input is fixed does not change as quantity changes I Labor L is usually the variable input being added to fixed inputs K ShortRun Production Function 55 G H A F 5 50 Total output E I E 45 per day 8 4o 2 35 C g 30 5 25 9 20 Output rates depend 5 15 B on input levels g 10 9 5 0 A 1 2 3 4 5 6 7 8 Labor Input machine operators per day Marginal Productivity l Marginal physical product MPP change in total output that results from employment of one additional unit of input change in total output Marginal physical product MPP change In Input quantity Marginal Physical Product B C D E F G H l Numberofworkers 1 2 3 4 5 6 8 Total Output 15 34 44 48 50 51 51 47 Marginal physical 15 19 10 4 2 1 0 04 product MPPL Marginal Physical Product 55 G H F 9 50 Total output E I g 45 perday an 40 g 35 C 1 1OJeans g 30 Third worker 539 25 20 B Marginal physical product 0 15 C d perworker a b g 10 e 09 5 quot 0 A f 9 h 1 2 3 4 5 6 7 a Labor Input machine operators per day Law of Diminishing Marginal Returns I Law of diminishing marginal returns the marginal physical product of a variable input declines as more of it is employed with a given quantity of other fixed inputs Diminishing Marginal Returns 55 G H F 25gt 50 Total output E lt3 45 perday 8 40 2 35 C E 30 5 25 9 20 Mar gmal phy5ca product C03 15 B b C d perworker g 10 e 9 5 0 A f 9 h 1 2 3 4 5 6 7 a Labor Input machine operators per day Resource Costs A production function tells us how much a firm can produce but not how much it should produce I The most desirable rate of output is the one that maximizes total profit 0 Profit The difference between total revenue and total cost Marginal Resource Cost I Marginal cost MC is the increase in total costs associated with a one unit increase in production Change in total cost Change in output Marginal cost AC MC AQ Marginal Resource Cost Whenever MPP is increasing the marginal cost of producing a good must be falling I If marginal physical product declines marginal cost increases Marginal Physical Product Falling MPP lmplies Rising Marginal Cost Diminishing marginal productivity implies Rising marginal cost 24 120 20 as 100 8 16 5 CL80 0 12 S 060 E 8 g 040 396 4 2 020 0 1 2 3 4 5 6 7 8 0 1 2 3 4 5 6 7 Labor Input i Labor Input Costs The dollar costs of production are directly related to the underlying production function Total cost market value of all the resources used to produce a good or service I Fixed costs costs of production that do not change when the rate of output is altered such as the cost of basic plant and equipment Variable costs costs of production that change when the rate of output is altered such as labor and material costs Total Cost How fast total costs rise depends on variable costs only I Total cost is equal to the fixed costs when output is zero I There is no way to avoid fixed costs in the short run TCFCVC Total Cost Rate of Fixed Variable Total Cost Output Cost Cost Fe VC 0 120 0 120 10 120 85 205 15 120 125 245 20 120 150 270 30 120 240 360 40 120 350 470 50 120 550 670 51 120 633 753 Total Cost of Production Resource Input X Unit Price Total Cost 1 factory 100 per day 100 1 sewing machine 20 per day 20 1 operator 80 per day 80 15 bolts of denim 30 per bolt Total cost 245 The Cost of Jeans Production Production Costs dollars per day 1 200 1 1 OO 1 000 900 800 700 600 500 400 300 200 100 0 Total cost include variable and fixed costs Total cost G Variable costs B A Variable costs Fixed costs 15 30 45 6O 75 Rate of Output pairs of jeans per day Average Costs I Average total cost A TC total cost divided by the quantity produced in a given time period Total cost Total output ATCT96 Average total cost Average Costs I Average fixed cost AFC total fixed cost divided by the quantity produced in a given time period Total fixed cost Total output Average xed cost AFC 5 Average Costs Average variable cost A VC total variable cost divided by the quantity produced in a given time period Total variable cost Average variable cost Total output AVC TV ATC AFC AVC Average Costs Avera e Avera e gigs Total Cost F zracgoest Variatge Total Cst Cost AFC AVC 0 120 10 205 1200 850 2050 15 245 800 833 1633 20 270 600 750 1350 30 360 400 800 1200 40 470 300 875 1175 50 670 240 1100 1340 51 753 235 1241 1476 Average Costs 24 20 16 12 Costs dollars per pair 0 1O 20 3O 4O 50 Rate of Output pairs per day Shape of Cost Curves Falling AFC As the rate of output increases AFC decreases as the fixed cost is spread over more output Any increase in output lowers average fixed cost Rising AVC AVC will eventually rise as the rate of output Increases AVC rises because of diminishing returns in the production process Costs dollars per pair Average Costs 24 20 16 12 0 1O 20 30 Rate of Output pairs per day 40 5O Shape of Cost Curves UShaped ATC The initial dominance of falling AFC combined with the later resurgence of rising AVC is what gives the ATC curve its characteristic U shape Minimum ATC The bottom of the Ushaped average total cost curve represents the minimum average total costs It identifies the lowest possible opportunity costs to produce the product Profit aren t necessarily maximized where average total costs are minimized Costs dollars per pair Average Costs 24 20 16 12 0 1O 20 30 Rate of Output pairs per day 40 5O Marginal Cost I arginal cost the change in total costs associated with one more unit of output I Diminishing returns in production cause marginal costs to increase as the rate of output is expanded Change in total cost Change in output MC ATQ Marginal cost Marginal Cost Rate of ATC Output Total Cost A q MC 0 120 p 10 205 851O 85 q 15 245 405 80 r 20 270 255 50 S 30 360 901O 90 t 40 470 11010 l l u 50 670 2001O 20 v 51 753 831 83 Marginal Cost 35 30 25 20 15 10 Added output is increasingly expensive MARGINAL COST per pair O I 1O 20 30 4O 50 Rate of Output pairs per day A Cost Summary I The marginal cost curve always intersects the ATC curve at its lowest point If MC gt ATC ATC is increasing If MC lt ATC ATC is decreasing If MC ATC ATC at minimum Output TC TFC TVC ATC AVC MC TR 100 50 25 50 20 533 175 90 30 270 413 35 Basic Cost Curves 32 MC 0 28 g 24 g 20 U 5 16 ATC lt3 12 AVG 2 8 n AFC 0 1 2 3 4 5 6 7 8 Rate of Output units per time period Economic vs Accounting Costs I Accountants typically count dollar costs only and ignore any resource use that doesn t result in an explicit dollar cost I Economists consider implicit costs as well as explicit costs to be part of the total costs of production Economic vs Accounting Costs I Explicit costs payments made for the use of a resource 39 Implicit costs value of resources used even when no direct payment is made opportunity costs Economic vs Accounting Costs I Economic cost value of all resources used to produce a good or service I Opportunity cost LongRun Costs The shortrun is characterized by costs that cannot be changed fixed costs I There are no fixed costs in the longrun I The long run is a period of time long enough for all inputs to be varied no fixed costs Economies of Scale I In long run a firm can decide to use one large plant or several smaller plants to produce a given amount of output I Economies of scale reductions in minimum average costs that come about through increases in the size scale of plant and equipment Economies of Scale Constant returns to scale increases in plant size do not affect minimum average cost minimum perunit costs are identical for small plants and large plants Diseconomies of scale occur when an increase in plant size results in reducing operating efficiency Economies of Scale Constant returns to scale Economies of scale Diseconomies of scale 75 5 E ATC3 Q e ATC ArcS wokTM U 2 771 l C C a O 0 RATE OF OUTPUT RATE OF OUTPUT RATE OF OUTPUT units per period units per period units per period Improvements in Productivity Reduce Costs When the production Cost curves shift function shifts up down 3 a 8 8 395 a 2 o E 2 l 1 8 lt a V I Q I 03 U 3 0 Resource Inputs Rate of Output dollars per unit units per time period


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