COSTS OF PRODUCTIONPut another way:PowerPoint PresentationSlide 4Slide 5Slide 7Slide 8Slide 10Slide 11Slide 12Slide 13Slide 14AVERAGE COSTSlide 16Slide 18Slide 20Slide 21MARGINAL COSTSlide 23Slide 25Slide 27Slide 28Slide 29Slide 31COST CURVE SUMMARY:CHANGES IN COSTSSlide 34Slide 35Slide 36Slide 37Slide 38Slide 39Slide 40SUMMARYSlide 43Slide 45Slide 47Short-run costs slide 1COSTS OF PRODUCTIONCOSTS OF PRODUCTIONGeneral principle: If you know the technology of production (the production function or total product curve), and if you know the prices of the inputs to production, then you can find the firm’s costs at any level of output.Short-run costs slide 2Put another way:Put another way:Costs are determined by the technology of production and input prices.Let’s start with the total product curve for tax preparation services from the last section, and show how to get to costs of production.Short-run costs slide 3TOTALLABOR PRODUCT0 01 32 153 364 485 566 627 668 68Short-run costs slide 4Suppose labor costs $48 per day.PL = $48/dayIf labor is the only variable input, we can find the total variable costs at each output level.Short-run costs slide 5TOTAL PL L = LABORPRODUCT TVC0 0 01 3 482 15 963 36 1444 48 1925 566 627 668 68 384Hidden slideShort-run costs slide 7THE TOTAL VARIABLE COST CURVE shows the total variable cost at each level of output.In the total variable cost curve the independent variable is OUTPUT, and the dependent variable is TOTAL VARIABLE COSTS.Short-run costs slide 8When output is 56, total variable costs are $240. When output is 56, total variable costs are $240. $Q01002003004005006007000 20 40 60 80PLOT THE REST OF THE POINTS TOSHOW TVC.Short-run costs slide 10If there are fixed costs (costs associated with inputs that can’t be changed), then we can add these to the total variable costs to get total costs.Total Cost = Fixed Cost + Total Variable CostTC = FC + TVCShort-run costs slide 111002003004005006007000 20 40 60 80TVCTCThe total cost curve shows the total cost of producing each output.$QShort-run costs slide 12Here’s another total cost curve that we’ll use to introduce the concepts of average cost and marginal cost.Short-run costs slide 13Q TC0 50.01 63.02 71.03 76.04 82.45 97.06 130.07 174.08 233.09 314.010 460.011 656.0Short-run costs slide 1401002003004005006007000 2 4 6 8 10 12 14TCTC($)Here’s the graph of this new total cost curve.Short-run costs slide 15AVERAGE COSTAVERAGE COSTAverage cost: Cost per unit of output. Total cost divided by output. TC/Q.Average cost curve: The curve that shows average cost as a function of output. Output is the independent variable and average cost is the dependent variable.Short-run costs slide 16AC = TC/Q = 97/5Q TC AC0 50.01 63.0 63.02 71.0 35.53 76.0 25.34 82.4 20.65 97.0 19.46 130.07 174.08 233.09 314.0 34.910 460.0 46.011 656.0 59.6Hidden slideShort-run costs slide 18ACAC($/Q)Q0204060801001200 2 4 6 8 10 12 14PLOT THE REST OF THE AC CURVE.Hidden slideShort-run costs slide 20AVERAGE VARIABLE COSTS CAN BE SHOWN AT THE SAME TIME.Q TC AC AVC0 50.01 63.0 63.0 13.02 71.0 35.5 10.53 76.0 25.3 8.74 82.4 20.6 8.15 97.0 19.4 9.46 130.0 21.7 13.37 174.0 24.9 17.78 233.0 29.1 22.99 314.0 34.9 29.310 460.0 46.0 41.011 656.0 59.6 55.1Short-run costs slide 210204060801001200 2 4 6 8 10 12 14$/QQAVCACShort-run costs slide 22MARGINAL COSTMarginal cost: The change in total cost per unit change in output. The increase in cost due to producing one more unit of output. The slope of the total cost curve. TC / Q.Marginal cost curve: The curve that shows marginal cost as a function of output. The independent variable is output. The dependent variable is marginal cost.Short-run costs slide 23The marginal costof the 4th unit ofoutput is 6.4 =(82.4-76)/(4-3)Q TC AC MC0 50.01 63.0 63.0 132 71.0 35.5 83 76.0 25.3 54 82.4 20.6 6.45 97.0 19.4 14.66 130.0 21.7 337 174.0 24.98 233.0 29.19 314.0 34.910 460.0 46.0 14611 656.0 59.6 196Calculate the missing figures for MC.Hidden slideShort-run costs slide 25AC, MCMCACQ0204060801001200 2 4 6 8 10 12 14ACHidden slideShort-run costs slide 27Of course, the marginal and average cost curves must conform to the usual rules about marginal and average curves.1) When the average is rising, the marginal quantity must be greater than the average quantity.2) When the average is falling, the marginal quantity must be less than the average quantity.3) When the average is neither rising nor falling (at a maximum or minimum), average and marginal are equal.Short-run costs slide 28Notice that the general shape of the AC and MC curves can be deduced by looking as the TC curve.(Review, if necessary, the techniques for finding AP and MP curves by inspecting TP curves covered in the last section.)Short-run costs slide 29WHAT WOULD THE AVERAGE VARIABLE COST CURVE LOOK LIKE IF WE WERE TO PUT IT ON THE SAME DIAGRAM?0204060801001200 2 4 6 8 10 12 14$/QMCACQHidden slideShort-run costs slide 31Two alternative waysof showing information about the firm’s costs.Two alternative waysof showing information about the firm’s costs.0204060801001200 2 4 6 8 10 12 1401002003004005006007000 2 4 6 8 10 12 14$$/QTCQMCACQShort-run costs slide 32COST CURVE SUMMARY:COST CURVE SUMMARY:Costs depend output, technology, and input prices.There are two ways to depict a firm’s costs:1) Total cost curves2) Average and marginal cost curvesShort-run costs slide 33CHANGES IN COSTSCHANGES IN COSTSWhat are the effects on costs of changes ina) input prices?b) the technology of production?c) taxes on output?Short-run costs slide 34What are the effects on a firm’s costs of an increase in the price of an input?The increase in the price of a variable input will raise the total variable costs of production at each output level.This has the effect of raising both marginal and average costs.Short-run costs slide 350501001502002503003500 2 4 6 8 10 12 1401020304050600 2 4 6 8 10 12 14$$/QTCTC’ACAC’MCMC’QIncreasing the price of aninput raises both averageand marginal costs.QTC’ is the total cost curve when the price of a variable input is increased.AC’ and MC’ show the effect of higher input prices.Short-run costs slide 36An improvement in technology lowers the cost of producing each level of output.Marginal and average costs of production will be lower as a result.Short-run costs slide 370501001502002503003500 2 4 6 8 10 12 1401020304050600 2 4 6 8 10 12 14$$/QQQTCTC’MCMC’ACAC’IMPROVEMENTS IN