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Cost
Q=f (L,K)
so far we assumed that supply curves are upward sloping :
that a higher price will encourage firms to supply more . But
how much will firms choose to supply at each price , it
depends on the amount of profits they will make.
Output depend on the amount of resources and how they are used . Different
amount and combination of input will lead to different amount of output
The cost of producing any level of output depends on the amount of inputs or
factors of production used and the price the firm must pay for them
Fixed factor: An input that can not be increased in supply within a given time period
(building)
variable factors : An input that can be increased in supply within given time period
(labour)
Long-run production: the period of time long enough for all factors to be
varied
Short-run : the period of time over which at least one factor is fixed
when one or more factors are held fixed, there will come a point beyond which
the extra output from additional units of the variable factor will diminish.
additional use of a unit of the factor of production will produce less extra
output than the previous unit.
APP = TPP/L
MPP = TPP/L
40
TPP
Maximum output
30
Diminishing returns
set in here
20
10
0
0
TPP
30
20
Diminishing returns
set in here
10
0
0
Number of
farm workers (L)
APP
Number of
farm workers (L)
MPP
d
40
TPP
30
20
10
0
0
Maximum
output
Number of
farm workers (L)
14
10
Stage
3
Stage
2
Stage
1
12
8
6
4
APP
0
-2
MPP
Number of
farm workers (L)
MP , before MP=0
Stage 3 : decreasing TP and negative MP
adding more labor causes TP to fall
Diminishing Marginal returns start from MP
start decreasing and slop become negative
Background to Supply
Short-run Costs
Short-run costs
Every company is involving by 2 different type of
cost:
Fixed costs : total costs that do not vary with the amount of output
produced
variable costs: total costs that do vary with the amount of output
produced
Total costs: the sum of total fixed costs and total variable costs
100
0
1
2
3
4
5
6
7
80
60
12
12
12
12
12
12
12
12
TC
()
0
10
16
21
28
40
60
91
TC
12
22
28
33
40
52
72
103
TVC
40
20
TFC
0
0
100
TVC
80
Diminishing marginal
returns set in here
60
40
20
TFC
0
0
Short-run costs
Average fixed cost total fixed cost per unit of output AFC=TFC/Q
Marginal cost (MC) the extra cost of producing one more unit of
output MC=TC/Q
Marginal cost
MC
Costs ()
Diminishing marginal
returns set in here
Output (Q)
100
TVC
80
Bottom of
the MC curve
60
40
20
TFC
0
0
TFC
TVC
TC
MC
AFC
AVC
AC
12
12
12
10
22
10
12
10
22
12
16
28
14
12
21
33
11
12
28
40
10
12
40
52
12
2.4
10.4
12
60
72
20
10
12
AC
Costs ()
AVC
z
y
x
AFC
Output (Q)
Background to Supply
Revenue
Revenue
Defining total, average and marginal revenue
Revenue curves when firms are price takers
AR, MR ()
Price ()
D = AR
= MR
Pe
D
O
Q (millions)
Q (hundreds)
Revenue
Defining total, average and marginal revenue
Revenue curves when firms are price takers
6000
0
200
400
600
800
1000
1200
TR ()
5000
4000
3000
5
5
5
5
5
5
5
TR
TR
()
0
1000
2000
3000
4000
5000
6000
2000
1000
0
0
200
400
600
Quantity
800
1000
1200
Revenue
Revenue curves when price varies with output
AR, MR ()
TR MR
() ()
8
6
14
4
18
2
20
0
20
-2
18
-4
14
AR
0
1
-2
-4
MR
Quantity
20%
20%
20%
20%
B.
C.
D.
E.
A. 450
B. 9
C. 1
D. 40
E. 45
A.
Revenue
Revenue curves when price varies with output
16
Quantity P = AR
(units)
()
TR ()
12
1
2
3
4
5
6
7
TR
TR
()
8
7
6
5
4
3
2
8
14
18
20
20
18
14
0
0
Quantity