STUDY GUIDE  ECON 102Topic 8: Business Costs & ProductionBusiness Decision Marking:-Example: fast food restaurant What you need? -Workers, wages, machines, cash registers, tables, etc.Explicit & Implicit Costs:Explicit Costs  tangible expenses (out of pocket, accounting costs, involve payment) Example: paying tuition for college, electricity bill, employee wagesImplicit Costs risks, opportunity costs, don’t involve payment (opportunity costs of doing business, what you give up.) Example: the capital invested in the business, the use of the owner’s cars, computer and personal equipment to conduct business.ProfitsAccounting Profit -Does not take into account implicit costs of doing business. Equation: Accounting Profit = Revenues – Explicit Costs What is Revenue?  The amount of money that a company actually receives during a specific period, including discounts and deductions for returned merchandise.Economic Profit -Considers “all costs” = (explicit costs + implicit costs) Equation: Economic Profit = Revenues – (explicit costs + implicit costs)Example: John is a college student who works summers to pay for tuition. Last summer heworked at a fast food restaurant and earned $3,000. This summer he is working as apainter and will earn $5,000. To do the painting job, John had to purchase $300 ofsupplies. Question: What is John’s accounting profit? Answer: Accounting profit = total revenues – explicit cost = $5,000 - $300 = $4,700.Question: If working at the fast food restaurant was John’s next best alternative,how much economic profit will John earn from painting? Answer: To calculate economic profit, we need to subtract the explicit and implicitcosts from the total revenue. John’s total revenue from painting will be $5,000. Hisexplicit costs are $300 for supplies and his implicit cost is $3,000, the salary hewould have earned in the fast food restaurant. So economic profit = total revenues –(explicit cost + implicit cost) = $5,000 – ($300 + $3,000) = $1,700.ProductionInputs  (what you get in and what you get out) -Resources used in the production process. Labor (L), Capital (K), and sometimes materials (M).Output  (what we are making) -The product that the firm creates.Example: Inputs (capital, labor)  the firm’s production process  outputProduction Function-Relationship between inputs (what you get in and what you get out) and outputs(what we are making).-To create outputs (what we are making) the owner needs to decide how manyinputs (what you get in and what you get out) to employ.Explanation: Quantity (q) = f (function) {K (capital input) and L (labor input}Marginal Product (TEST) ****-Change in output (what we are making) divided by the change in input (what youget in and what you get out).Marginal product of Labor  MPL = (change in quantity) over (change in labor)** How much will production change if putting one or more unit of labor.Marginal product of capital  MPK = (change in quantity) over (change in capital)** How much will production change if putting one or more unit of capital.Diminishing Marginal ProductLaw of Diminishing Marginal Product:-Diminishing = begins to fall-Successive increases in an input (what you get in and what you get out) eventuallycause output (what we are making) to increase at a slower rate. Example: If at one shop 1 person is working and if we employ 1 more person, then, total income will increase at an increasing rate as they can have better division of labor now. Income will increase at an increasing rate till there are 5 workers and they are fully utilized. And if we will employ 1 more person then total income might increase,but the average income will fall, ie income per person will fall due to 1 extra unit of labor. Or we can say addition made by the 6th worker is less than the earlier unit (ie Marginal product of 6th unit of labor will fall.)Assuming capital (K) is fixed: -We eventually get to a point where a new worker (L) adds less to output than the previous workers). Graph:RULES: 1. INCREASED MPL = OUTPUT TO FASTER RATE2. DECREASED MPL = OUTPUT INCREASE AT A SMALLER RATE3. MPL (-) = OUTPUT GOES DOWNShort Run Costs to the FirmFixed Costs (FC)  constant -Costs that do not vary with output (what we are making).-Costs that exist even if output is zero.Example: building rent, insuranceVariable Costs (VC)-Costs that are directly related with the rate of output (what we are making). Example: worker wages, electric bill, food ingredients. Total Costs (TC) -Sum of Variable Costs and Fixed Costs.Equation: TVC + TFCShort – Run CostsAverage total cost (ATC)-Total costs divided by the number of units produced.Equation: TC/Q OR AVC + AFCAverage variable cost (AVC)Equation: TVC/QAverage fixed cost (AFC) --> always decreases as we produce more output (Q).Equation: TFC/QMarginal cost (MC)-How much it will cost you to produce one more, increase in total cost that occurs from producing additional output (what we are making)Equation: change in total cost (TC) divided by change in output (Q)** TFC  REMAINS THE SAMETVC  TFC + QMargin & Average Relationship-If the margin is above the average  average will increase-If the margin is below the average  average will decreaseCostsScale  size of the producing process.Efficient Scale  level of output (what we are making) in which ATC is minimized **MC curve passes through the minimum of the ATC curve.Costs in the Long Run Economies of Scale  Q increases when Total Cost (TC) decreases - ATC falls when production expands. - Lager firm more efficient than a smaller firm. Diseconomies of Scale  ATC rises when production expands. -Very large firm has to deal with additional management, coordination, logistic expenses. Constant Returns to Scale  ATC doesn’t change when production expands.