1、,5 FIRM BEHAVIOR AND THE ORGANIZATION OF INDUSTRY,13,The Costs of Production,The Market Forces of Supply and Demand,Supply and demand are the two words that economists use most often. Supply and demand are the forces that make market economies work. Modern microeconomics is about supply, demand, and

2、 market equilibrium.,WHAT ARE COSTS?,According to the Law of Supply: Firms are willing to produce and sell a greater quantity of a good when the price of the good is high. This results in a supply curve that slopes upward.,WHAT ARE COSTS?,The Firms Objective The economic goal of the firm is to maxim

3、ize profits.,Maximum Profits,Total Revenue, Total Cost, and Profit,Total Revenue The amount a firm receives for the sale of its output. Total Cost The market value of the inputs a firm uses in production.,Total Revenue, Total Cost, and Profit,Profit is the firms total revenue minus its total cost. P

4、rofit = Total revenue - Total cost,Costs as Opportunity Costs,A firms cost of production includes all the opportunity costs of making its output of goods and services. Explicit and Implicit Costs A firms cost of production include explicit costs and implicit costs. Explicit costs are input costs tha

5、t require a direct outlay of money by the firm. Implicit costs are input costs that do not require an outlay of money by the firm.,Economic Profit versus Accounting Profit,Economists measure a firms economic profit as total revenue minus total cost, including both explicit and implicit costs. Accoun

6、tants measure the accounting profit as the firms total revenue minus only the firms explicit costs.,Economic Profit versus Accounting Profit,When total revenue exceeds both explicit and implicit costs, the firm earns economic profit. Economic profit is smaller than accounting profit.,Figure 1 Econom

7、ic versus Accountants,Copyright 2004 South-Western,How an Economist,Views a Firm,How an Accountant,Views a Firm,Table 1 A Production Function and Total Cost: Hungry Helens Cookie Factory,Copyright2004 South-Western,PRODUCTION AND COSTS,The Production Function The production function shows the relati

8、onship between quantity of inputs used to make a good and the quantity of output of that good.,The Production Function,Marginal Product The marginal product of any input in the production process is the increase in output that arises from an additional unit of that input.,The Production Function,Dim

9、inishing Marginal Product Diminishing marginal product is the property whereby the marginal product of an input declines as the quantity of the input increases. Example: As more and more workers are hired at a firm, each additional worker contributes less and less to production because the firm has

10、a limited amount of equipment.,Figure 2 Hungry Helens Production Function,Copyright 2004 South-Western,Quantity of,Output,(cookies,per hour),150,140,130,120,110,100,90,80,70,60,50,40,30,20,10,Number of Workers Hired,0,1,2,3,4,5,Production function,The Production Function,Diminishing Marginal Product

11、 The slope of the production function measures the marginal product of an input, such as a worker. When the marginal product declines, the production function becomes flatter.,From the Production Function to the Total-Cost Curve,The relationship between the quantity a firm can produce and its costs

12、determines pricing decisions. The total-cost curve shows this relationship graphically.,Table 1 A Production Function and Total Cost: Hungry Helens Cookie Factory,Copyright2004 South-Western,Figure 3 Hungry Helens Total-Cost Curve,Copyright 2004 South-Western,Total,Cost,$80,70,60,50,40,30,20,10,Quan

13、tity,of Output,(cookies per hour),0,10,20,30,150,130,110,90,70,50,40,140,120,100,80,60,THE VARIOUS MEASURES OF COST,Costs of production may be divided into fixed costs and variable costs.,Fixed and Variable Costs,Fixed costs are those costs that do not vary with the quantity of output produced. Vari

14、able costs are those costs that do vary with the quantity of output produced.,Fixed and Variable Costs,Total Costs Total Fixed Costs (TFC) Total Variable Costs (TVC) Total Costs (TC) TC = TFC + TVC,Table 2 The Various Measures of Cost: Thirsty Thelmas Lemonade Stand,Copyright2004 South-Western,Fixed

15、 and Variable Costs,Average Costs Average costs can be determined by dividing the firms costs by the quantity of output it produces. The average cost is the cost of each typical unit of product.,Fixed and Variable Costs,Average Costs Average Fixed Costs (AFC) Average Variable Costs (AVC) Average Tot

16、al Costs (ATC) ATC = AFC + AVC,Average Costs,Table 2 The Various Measures of Cost: Thirsty Thelmas Lemonade Stand,Copyright2004 South-Western,Fixed and Variable Costs,Marginal Cost Marginal cost (MC) measures the increase in total cost that arises from an extra unit of production. Marginal cost help

17、s answer the following question: How much does it cost to produce an additional unit of output?,Marginal Cost,Marginal Cost Thirsty Thelmas Lemonade Stand,Figure 4 Thirsty Thelmas Total-Cost Curves,Copyright 2004 South-Western,Total Cost,$15.00,14.00,13.00,12.00,11.00,10.00,9.00,8.00,7.00,6.00,5.00,

18、4.00,3.00,2.00,1.00,Quantity,of Output,(glasses of lemonade per hour),0,1,4,3,2,7,6,5,9,8,10,Total-cost curve,Figure 5 Thirsty Thelmas Average-Cost and Marginal-Cost Curves,Copyright 2004 South-Western,Costs,$3.50,3.25,3.00,2.75,2.50,2.25,2.00,1.75,1.50,1.25,1.00,0.75,0.50,0.25,Quantity,of Output,(g

19、lasses of lemonade per hour),0,1,4,3,2,7,6,5,9,8,10,MC,ATC,AVC,AFC,Cost Curves and Their Shapes,Marginal cost rises with the amount of output produced. This reflects the property of diminishing marginal product.,Figure 5 Thirsty Thelmas Average-Cost and Marginal-Cost Curves,Copyright 2004 South-West

20、ern,Costs,$3.50,3.25,3.00,2.75,2.50,2.25,2.00,1.75,1.50,1.25,1.00,0.75,0.50,0.25,Quantity,of Output,(glasses of lemonade per hour),0,1,4,3,2,7,6,5,9,8,10,MC,Cost Curves and Their Shapes,The average total-cost curve is U-shaped. At very low levels of output average total cost is high because fixed co

21、st is spread over only a few units. Average total cost declines as output increases. Average total cost starts rising because average variable cost rises substantially.,Cost Curves and Their Shapes,The bottom of the U-shaped ATC curve occurs at the quantity that minimizes average total cost. This qu

22、antity is sometimes called the efficient scale of the firm.,Figure 5 Thirsty Thelmas Average-Cost and Marginal-Cost Curves,Copyright 2004 South-Western,Costs,$3.50,3.25,3.00,2.75,2.50,2.25,2.00,1.75,1.50,1.25,1.00,0.75,0.50,0.25,Quantity,of Output,(glasses of lemonade per hour),0,1,4,3,2,7,6,5,9,8,1

23、0,ATC,Cost Curves and Their Shapes,Relationship between Marginal Cost and Average Total Cost Whenever marginal cost is less than average total cost, average total cost is falling. Whenever marginal cost is greater than average total cost, average total cost is rising.,Cost Curves and Their Shapes,Re

24、lationship Between Marginal Cost and Average Total Cost The marginal-cost curve crosses the average-total-cost curve at the efficient scale. Efficient scale is the quantity that minimizes average total cost.,Figure 5 Thirsty Thelmas Average-Cost and Marginal-Cost Curves,Copyright 2004 South-Western,

25、Costs,$3.50,3.25,3.00,2.75,2.50,2.25,2.00,1.75,1.50,1.25,1.00,0.75,0.50,0.25,Quantity,of Output,(glasses of lemonade per hour),0,1,4,3,2,7,6,5,9,8,10,ATC,MC,Typical Cost Curves,It is now time to examine the relationships that exist between the different measures of cost.,Big Bobs Cost Curves,Figure

26、6 Big Bobs Cost Curves,Copyright 2004 South-Western,(a) Total-Cost Curve,$18.00,16.00,14.00,12.00,10.00,8.00,6.00,4.00,Quantity of Output (bagels per hour),TC,4,2,6,8,14,12,10,2.00,Total,Cost,0,Figure 6 Big Bobs Cost Curves,Copyright 2004 South-Western,(b) Marginal- and Average-Cost Curves,Quantity

27、of Output (bagels per hour),Costs,$3.00,2.50,2.00,1.50,1.00,0.50,0,4,2,6,8,14,12,10,MC,ATC,AVC,AFC,Typical Cost Curves,Three Important Properties of Cost Curves Marginal cost eventually rises with the quantity of output. The average-total-cost curve is U-shaped. The marginal-cost curve crosses the a

28、verage-total-cost curve at the minimum of average total cost.,COSTS IN THE SHORT RUN AND IN THE LONG RUN,For many firms, the division of total costs between fixed and variable costs depends on the time horizon being considered. In the short run, some costs are fixed. In the long run, fixed costs bec

29、ome variable costs.,COSTS IN THE SHORT RUN AND IN THE LONG RUN,Because many costs are fixed in the short run but variable in the long run, a firms long-run cost curves differ from its short-run cost curves.,Figure 7 Average Total Cost in the Short and Long Run,Copyright 2004 South-Western,Quantity o

30、f,Cars per Day,0,Average,Total,Cost,1,200,$12,000,Economies and Diseconomies of Scale,Economies of scale refer to the property whereby long-run average total cost falls as the quantity of output increases. Diseconomies of scale refer to the property whereby long-run average total cost rises as the q

31、uantity of output increases. Constant returns to scale refers to the property whereby long-run average total cost stays the same as the quantity of output increases,Figure 7 Average Total Cost in the Short and Long Run,Copyright 2004 South-Western,Quantity of,Cars per Day,0,Average,Total,Cost,Summary,The goal of firms is to maximize profit, which equals total revenue minus total cost. When analyzing a firms behavior, it is important to include all the opportunity costs of production. Some opportunity costs