Ch.13+The+Costs+of+Production

OK, so the cost of production...what is that?

Well...it's the cost of production, how much it costs to produce.

First, what do firms want to do? They want to maximize their profit. So they have to calculate everything.

The amount that the firm receives for the sale of its output is called its **total revenue**.

The amount that the firm pays to buy inputs is called its **total cost.**


 * Profit** is the firm's total revenue minus its total cost.

Costs as Opportunity Costs
One of the Ten Principles of Economics said that the cost of something is what you give up to get it. Therefore, when firms talk about cost of production, they include all the costs of things they could have done instead of making their goods.

For example, when you buy a $400 machine to produce goods, the opportunity cost is that $400 that you could have spent on something else. This type of opportunity cost is called the **explicit cost**.

Also, if you spent an hour trying to make a good, then you're opportunity cost would be $20 that you could have earned by working for an hour at McDonald's at that hour. This type of opportunity cost is called the **implicit cost**.

Economic Profit and Accounting Profit

 * Economic profit** is the firm's total revenue minus all the opportunity costs (implicit and explicit).


 * Accounting profit** is the firm's total revenue minus only the firm's explicit cost.

Therefore, accounting profit is larger than the economic profit.

Production and Costs
First, it is important the understand the concept of **Diminishing Marginal Product**. But before that you have to know what **marginal product** is.


 * Marginal product** is the increase in the quantity of output obtained from one additional unit of that input.

When you hire too many people, the working place gets crowded and it becomes less efficient. Imagine adding more workers to that...they are going to be producing less more with increased number of workers. This shows the concept of **Diminishing Marginal Product.** Because of this, firms require more and more number of inputs to produce as many outputs they created before. This means the cost of producing more output gets more and more expensive. This explains why the Total-cost curve is shaped like this.

ATC = TC/Q AFC = FC/Q VC/Q MC = change in TC / change in Q
 * Average total cost**: total cost divided by the quantity of output.
 * Average Fixed cost**: fixed cost divided by the quantity of output
 * Average variable cost**: the variable cost divided by the quantity of out output.
 * Marginal Cost**: change in total coast divided by change in quantity.

Cost Curves and Their Shapes
Because of the Diminishing Marginal Return, the graph of Marginal Cost will increase.

Average Fixed Cost will keep decreasing because it is fixed and only the quantity goes up.

Average variable cost increases because the more you produce, the more costly they get because of diminishing marginal product.

Average Total Cost curve is U-shaped.

MC intersects ATC at the lowest point.

ATC is decreasing when MC < ATC, increasing when MC > ATC

Alright. Now here's a question. Why does the Marginal Cost curve intersect the Average Total Cost curve at the lowest point of ATC?

For the answer, watch this video...by YOUNSUK CHAE!!!!

media type="youtube" key="typUZlsXi4o" height="344" width="425" total revenue**: the amount that the firm receives for the sale of its output (calculated P * Q)
 * __Key Concepts__
 * total cost**: the amount that the firm pays to buy inputs
 * profit**: the firm's total revenue minus its total cost
 * explicit cost**: actual money paid
 * implicit cost**: opportunity cost
 * economic profit**: the firm's total revenue minus all the opportunity costs (implicit and explicit)
 * accounting profit**: the firm's total revenue minus only the firm's explicit cost
 * production function**: relationship between quantity of inputs used to make a good and the quantity of output of that good
 * marginal product**: the increase in the quantity of output obtained from one additional unit of that input
 * diminishing marginal product**: the phenomenon which happens when the marginal product starts to decline as the quantity increases
 * fixed costs**: costs that do not vary
 * variable costs**: costs that are not fixed
 * average total cost**: total cost divided by the quantity of output
 * average fixed cost**: fixed cost divided by the quantity of output
 * average variable cost**: the variable cost divided by the quantity of out output
 * marginal cost**: change in total coast divided by change in quantity
 * efficient scale**: quantity that minimizes average total cost
 * economies of scale**: characteristic in the long run which average total cost decreases as the quantity increases
 * diseconomies of scale**: characteristic in the long run which average total cost increeases as the quantity increases
 * constant returns to scale**: characteristic in the long run which average total cost is constant as the quantity increases

Questions 1. Which cost is the actual paid money? explicit or implicit? 2. How do you find ATC?

Answers 1. Explicit Cost 2. Divide total cost by quantity of output