Econ 4001.01 1st Edition Lecture 11Outline of Last Lecture II. Defining Total Revenue and Total CostA. Definition of each III. Explicit vs. Implicit CostsIV. Accounting vs. Economic ProfitV. Sunk costs vs. Fixed Costsa. Sunk cost fallaciesOutline of Current Lecture VI. Nimbus Broom Example to Open Cost of ProductionVII. Relationship between Marginal Cost and Marginal RevenueVIII.Average vs. Marginal Relationship ReturnsIX. Costs with 2 Inputs: Labor and Capitala. Short Runb. Long RunX. Determining the Cost of Capitala. Isocost GraphsXI. Summary of Production OptimizationCurrent LectureCosts of Production- Nimbus Broom Example: learn about production function, marginal product, average and marginal costs, practice calculations for production problems, and become more comfortable graphing- Nimbus Broomso Initial Data: Fixed cost: $200 Wages: $100 per worker Is this enough data for us? Yeso Calculate Average and Marginal Product of LaborThese notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute. Hint: put MP data in between levels of output in your table Graphing hint: add midpoint of output range in table also to make Excel graphing easiero Where average product and marginal product of labor intersect is the point of maximum value of average producto TVC (total variable costs) in this case is the number of workers times in their dailywage rateo TFC (total fixed cost) remains the same- you only pay your fixed costs onceo TC (total cost) is total fixed cost + total variable costo AVC, AFC, and ATC are on the slides Average fixed is always declining Minimum point of ATC always comes after AVC’s minimum cost Where MC crosses AVC is at the minimum point of AVC Where MC crosses ATC is at the minimum point of ATC- Key Notes from Broom Exampleo Production Function flattens out at high quantityo Marginal Product of labor falls at high quantityo Marginal cost rises through AVC at minimum AVCo Marginal cost rises through ATC at minimum ATCo Check the slides for the rest of the information- Relationship between Marginal Product and Marginal Costo Assuming labor is the only variable cost, with w as the wage rate we have: VC=w*L and so change in VC=w(change in labor) MC=(change in variable cost/change in quantity)= w(change in labor/change in quantity) Rearranging gives us MC= (w/MPL)o In words, this says the marginal cost and the marginal product are inversely related- Average vs. Marginal Relationship Returnso If marginal cost is above average cost, average cost must be risingo If marginal cost is below average cost, average cost must be falling- Costs with Two Inputs- Labor and Capitalo Short Run- we assumed that capital was fixed cost; our examples included labor as the only variable costo Long Run-firms can choose the amount of capital they employo We might expect that as relative costs of capital and labor change, firms may wish to change the relative amounts of each that they use (this would be correct)- Determining the Cost of Capitalo User cost of capital is defined as the cost (per unit of time) of owning and employing capital assets Capital assets- land, buildings, equipment, machinery, working capital (forinventories, receivables) Most capital assets depreciate over time as they are usedo User cost is sum of economic depreciation and opportunity cost of the capital (interest foregone) We can express this cost in terms of cost per unit time OR we express this cost as a rate per unit of capital- Cost of Capital and the Rental Rate of Capitalo User cost of capital (r)= depreciation rate + interest rateo We can think about this as a rental rate for capital- if someone else owned it and rented it to the firm for a year, they would need to cover: The loss of value of the capital asset (depreciation) The opportunity cost for asset purchaseo We treat owned capital as if it were rented- Cost of Output in a Two Input Production Functiono Total cost= total labor cost + total capital costo We defined r as the rental rate for one unit of capital, so total capital cost= r*K where K= units of capitalo From our on input model, we had labor cost= w*L- Total Costs and Isocost Lineo An isocost graph is a graph showing the set of possible combinations of labor andcapital that can be bought for given total cost: C=wL + rKo We plot capital on the vertical axis and labor the horizontal axis Each isocost line has a different total cost Lines farther from the origin have a higher total costo Equation of an isocost line is found by rearranging cost equation- rK= C-wL or K=(C/r)-(w/r)Lo Isocost lines (with an Isoquant Tangent to C1) (see graph) Output of q1 is possible at a total cost of C1 cost; operating along C2 would not maximize profit- Summary of Production Optimizationo Recall (ch. 6) that isoquants show possible combinations of L and K that will produce a given outputo Isocost curves show total cost of different combinations of L and K; slope of isocost curve is