Principles of economics openstax chapter7

Business ConceptsCost: expenses of hiring resources for production of goods and services Revenue: incomes made from sale of goods and services Profit = Revenue - Cost... Accounting Cost

College Physics

Chapter # Chapter Title

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Principles of Economics

Chapter 7 Cost and Industry Structure

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Firm and production cost

Amazon is an American international electronic commerce company that sells books, among many other things, shipping them directly to the consumer

Market structure

Perfect Competition: Many small firms selling “identical” products

Monopolistic Competition: Many small-medium firms selling “similar” products

Oligopoly: A few big firms selling “differentiated” products

Monopoly: Only one firm selling “unique” products

Market structure

Business Concepts

Cost: expenses of hiring resources for production of

goods and services

Revenue: incomes made from sale of goods and services

Profit = Revenue - Cost

Economic vs Accounting Cost

Accounting Cost: Out-of-pocket costs or payments to suppliers of resources (e.g., wage, interest, rent)

Economic Cost: Out-of-pocket cost + Opportunity cost

Opportunity Cost: Cost of using own resources (e.g., managing your own business; using own vehicle for business)

Production & Cost Functions

Production Function: A graph showing the quantity of inputs used in

production of various quantities of output

Cost Function: A graph showing expenses of producing various quantities

of output

Production Costs

Fixed Costs: Costs of hiring fixed inputs (e.g., rent, insurance premiums)

Variable Costs: Costs of hiring variable inputs (e.g., wages, material costs)

Total cost function

At zero production, the fixed costs

= $160

As production increases, variable costs are added to fixed costs.

TC = TFC + TVC

Short-run Cost functions

Marginal Cost: Additional cost of producing an extra unit of output = ΔTotal Cost / ΔOutput

Average Total Cost = Total Cost / Output

Total cost per unit of output

Average Variable Cost = Total Variable Cost / Output

Variable cost per unit of output

Average Fixed Cost = Total Fixed Cost / Output

Fixed cost per unit of output

Short-run Cost functions

Output TVC TFC TC MC* ATC AVC AFC

0 0 8500 8500

100 2500 8500 11000 25 110 25 85

700 12500 8500 21000 30 30 18 12

800 17000 8500 25500 45 32 21 10.6

900 22500 8500 31000 55 34 25 9.4

1000 32500 8500 41000 100 41 32.5 8.5

* MC is per 100 units of output

Short-run Cost functions

Economies of scale

Economies of scale: In the long-run, Average Cost falls as output expands due to internal efficiencies (e.g., buying raw materials in large volumes at discounted prices)

A small factory like S produces 1,000 alarm clocks at AC = $12 per clock A medium factory like M produces 2,000 alarm clocks at AC = $8 per clock A large factory like L produces 5,000 alarm clocks at AC = $4 per clock

Economies of scale

Long-Run AC Declines as more output produced

Long-run average cost

The LRAC is the “envelope” of SRAC curves

The LRAC curve is actually based on a group of SRAC curves, each of which represents one specific level of fixed costs More precisely, the LRAC curve will be the least expensive average cost curve for any level of output

Long-run average cost

Long-run average cost

Minimum Efficient Scale (MES)

Plant size at which the LRAC reaches its minimum point as the firm experiences extended economies of scale

MES helps determine the number of firms in an industry and therefore the level of competition

Long-run average cost