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UB ECO 182 - Chapter 11

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Slide 1After studying this chapter, you will be able to:Slide 3Decision Time FramesDecision Time FramesDecision Time FramesShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run Technology ConstraintShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostShort-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run CostLong-Run Cost11OUTPUT AND COSTS© 2014 Pearson Addison-WesleyAfter studying this chapter, you will be able to:¨Distinguish between the short run and the long run¨Explain and illustrate a firm’s short-run product curves¨ Explain and derive a firm’s short-run cost curves¨Explain and derive a firm’s long-run average cost curve© 2014 Pearson Addison-WesleyWhat do McDonald’s and Campus Sweaters, a small producer of knitwear that we’ll study in this chapter, have in common? Like every firm, they must decide How much to produce.  How many people to employ. How much and what type of capital equipment to use. How do firms make these decisions?© 2014 Pearson Addison-WesleyDecision Time FramesThe firm makes many decisions to achieve its main objective: profit maximization.Some decisions are critical to the survival of the firm.Some decisions are irreversible (or very costly to reverse).Other decisions are easily reversed and are less critical to the survival of the firm, but still influence profit.All decisions can be placed in two time frames: The short run The long run© 2014 Pearson Addison-WesleyDecision Time FramesThe Short RunThe short run is a time frame in which the quantity of one or more resources used in production is fixed.For most firms, the capital, called the firm’s plant, is fixed in the short run.Other resources used by the firm (such as labor, raw materials, and energy) can be changed in the short run.Short-run decisions are easily reversed.© 2014 Pearson Addison-WesleyDecision Time FramesThe Long RunThe long run is a time frame in which the quantities of all resources—including the plant size—can be varied.Long-run decisions are not easily reversed.A sunk cost is a cost incurred by the firm and cannot be changed. If a firm’s plant has no resale value, the amount paid for it is a sunk cost.Sunk costs are irrelevant to a firm’s current decisions.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintTo increase output in the short run, a firm must increase the amount of labor employed.Three concepts describe the relationship between output and the quantity of labor employed:1. Total product2. Marginal product3. Average product© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintProduct SchedulesTotal product is the total output produced in a given period.The marginal product of labor is the change in total product that results from a one-unit increase in the quantity of labor employed, with all other inputs remaining the same.The average product of labor is equal to total product divided by the quantity of labor employed.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintTable 11.1 shows a firm’s product schedules.As the quantity of labor employed increases:Total product increases. Marginal product increases initially …but eventually decreases. Average product decreases.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintProduct CurvesProduct curves show how the firm’s total product, marginal product, and average product change as the firm varies the quantity of labor employed.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintTotal Product CurveFigure 11.1 shows a total product curve.The total product curve shows how total product changes with the quantity of labor employed.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintThe total product curve is similar to the PPF.It separates attainable output levels from unattainable output levels in the short run.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintMarginal Product CurveFigure 11.2 shows the marginal product of labor curve and how the marginal product curve relates to the total product curve.The first worker hired produces 4 units of output.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintThe second worker hired produces 6 units of output and total product becomes 10 units.The third worker hired produces 3 units of output and total product becomes 13 units.And so on.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintThe height of each bar measures the marginal product of labor.For example, when labor increases from 2 to 3, total product increases from 10 to 13, so the marginal product of the third worker is 3 units of output.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintTo make a graph of the marginal product of labor, we can stack the bars in the previous graph side by side.The marginal product of labor curve passes through the mid-points of these bars.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintAlmost all production processes are like the one shown here and have:Increasing marginal returns initially Diminishing marginal returns eventually© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintIncreasing Marginal Returns Initially, the marginal product of a worker exceeds the marginal product of the previous worker.The firm experiences increasing marginal returns.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintDiminishing Marginal Returns Eventually, the marginal product of a worker is less than the marginal product of the previous worker.The firm experiences diminishing marginal returns.© 2014 Pearson Addison-WesleyShort-Run Technology ConstraintIncreasing marginal returns arise from


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