unit 5 - cost functions explicit costs and implicit costsexplicit costs and implicit costs explicit...
TRANSCRIPT
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Explicit Costs and Implicit CostsExplicit Costs and Implicit Costs
Explicit cost are out-of-pocket expenses, such as Explicit cost are out-of-pocket expenses, such as labor, raw materials,labor, raw materials,and rent.and rent.
Implicit costs are foregone Implicit costs are foregone expenses, such as the value of expenses, such as the value of your own time, and the value of your own money your own time, and the value of your own money (interest earned).(interest earned).
Microeconomics
Which of the following comes closest Which of the following comes closest to the true economic cost (on to the true economic cost (on
average) of earning a bachelor’s average) of earning a bachelor’s degree in college?degree in college?
0 of 5
1.1. $10,000$10,000
2.2. $20,000$20,000
3.3. $40,000$40,000
4.4. $60,000$60,000
5.5. $160,000$160,000
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
Estimated explicit costs of attending college (4 years):Estimated explicit costs of attending college (4 years):
tuition, fees, books, and transportation: tuition, fees, books, and transportation: $15,000 x 4 = $60,000 .$15,000 x 4 = $60,000 .
Estimated implicit costs include foregone earnings, Estimated implicit costs include foregone earnings, and foregone interest:and foregone interest:$25,000 x 4 = $100,000.$25,000 x 4 = $100,000.
Total economic cost: $160,000.Total economic cost: $160,000.
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Economic versus Accounting ProfitsEconomic versus Accounting Profits
Economic profits equal total revenue minus Economic profits equal total revenue minus all (explicit and implicit) costs.all (explicit and implicit) costs.
Accounting profits equal total revenue minus Accounting profits equal total revenue minus explicit costs.explicit costs.
Microeconomics
If a firm’s total revenue is $80,000, and its If a firm’s total revenue is $80,000, and its explicit and implicit costs are $50,000 and explicit and implicit costs are $50,000 and $25,000, respectively, then its economic and $25,000, respectively, then its economic and accounting profits are:accounting profits are:
1.1. $5,000; $25,000$5,000; $25,000
2.2. $5,000; $30,000$5,000; $30,000
3.3. $30,000; 5,000$30,000; 5,000
4.4. $30,000; $25,000$30,000; $25,000
5.5. $75,000; $80,000$75,000; $80,000
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Economic versus Accounting ProfitsEconomic versus Accounting Profits
CalculationsCalculations
Economic ProfitEconomic Profit = $80,000 - $75,000= $80,000 - $75,000
= $5,000= $5,000
Accounting ProfitAccounting Profit = $80,000 - $50,000= $80,000 - $50,000
= $30,000= $30,000
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Economic versus Accounting Profits Economic versus Accounting Profits
Example 2:Example 2:If a firm’s total revenue is $80,000, and its If a firm’s total revenue is $80,000, and its explicit and implicit costs are $70,000 and explicit and implicit costs are $70,000 and $25,000, respectively, what are its economic $25,000, respectively, what are its economic and accounting profits?and accounting profits?
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Economic versus Accounting ProfitsEconomic versus Accounting Profits
Example 2 answerExample 2 answerEconomic ProfitEconomic Profit = $80,000 - $95,000= $80,000 - $95,000
= - $15,000= - $15,000
Accounting ProfitAccounting Profit = $80,000 - $70,000= $80,000 - $70,000= $10,000= $10,000
From a financial point of view, should the firm From a financial point of view, should the firm continue to operate?continue to operate?
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions• Total and Per Unit CostsTotal and Per Unit Costs
Total and per unit economic costs include:Total and per unit economic costs include:
– Total Variable Cost (TVC)Total Variable Cost (TVC)
– Total Fixed Cost (TFC)Total Fixed Cost (TFC)
– Total Cost (TC)Total Cost (TC)
– Average Variable Cost (AVC)Average Variable Cost (AVC)
– Average Fixed Cost (AFC)Average Fixed Cost (AFC)
– Average Total Cost (ATC)Average Total Cost (ATC)
– Marginal Cost (MC)Marginal Cost (MC)
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions• Total and Per Unit CostsTotal and Per Unit Costs
Example 1Example 1If TVC + TFC = TC, and TVC and TFC are If TVC + TFC = TC, and TVC and TFC are $900 and $300, respectively, what is TC?$900 and $300, respectively, what is TC?
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Total and Per Unit CostsTotal and Per Unit Costs
Example 1 answerExample 1 answer
Total Variable CostTotal Variable Cost $900$900
Total Fixed CostTotal Fixed Cost $300$300++
++
Total CostTotal Cost $1200$1200
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions• Total and Per Unit CostsTotal and Per Unit Costs
Example 2Example 2If TC is $1,200 and production is 50, what is If TC is $1,200 and production is 50, what is ATC?ATC?
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Total and Per Unit Costs Total and Per Unit Costs
Example 2 answerExample 2 answer
ATC =ATC =
Microeconomics
Q
$1200
50
TC= = $24
Unit 5 - Cost FunctionsUnit 5 - Cost Functions• Total and Per Unit CostsTotal and Per Unit Costs
Example 3Example 3If production is 50, and total variable and total If production is 50, and total variable and total fixed cost are $900 and $300, respectively, fixed cost are $900 and $300, respectively, what are average variable cost and average what are average variable cost and average fixed cost? (Output = 50).fixed cost? (Output = 50).
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Total and Per Unit CostsTotal and Per Unit Costs
Example 3 answerExample 3 answer
Average variable costAverage variable cost = =
Average fixed cost Average fixed cost ==
Microeconomics
$900
50=$18
$300
50=$6
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Total and Per Unit CostsTotal and Per Unit Costs
Example 4Example 4Using the data in the previous examples, let’s Using the data in the previous examples, let’s say that you produce an additional 5 say that you produce an additional 5 products, and your total cost rises to $1260, products, and your total cost rises to $1260, what is your marginal cost?what is your marginal cost?
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Total and Per Unit CostsTotal and Per Unit Costs
Example 4 answerExample 4 answer
Marginal cost =Marginal cost =
Microeconomics
change in total cost
change in production=
$60
5= $12
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Cost CalculationsCost CalculationsExample 5 - Fill in the missing valuesExample 5 - Fill in the missing values
Microeconomics
Q TC TVC TFC ATC AVC AFC MC
0 80
1 80
2 110
3 70
4 90
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Short-run Cost CalculationsShort-run Cost CalculationsExample 5 answerExample 5 answer
Microeconomics
Q TC TVC TFC ATC AVC AFC MC
0 80 0 80 - - - -
1 160 80 80 160 80 80 80
2 220 140 80 110 70 40 60
3 290 210 80 96.7 70 26.7 70
4 380 300 80 95 75 20 90
Costsin Dollars
Quantity Produced
ATC
AVC
MC
• The Shape of Typical Cost CurvesThe Shape of Typical Cost CurvesUnit 5 - Cost FunctionsUnit 5 - Cost Functions
• The Long-run Average Cost CurveThe Long-run Average Cost Curve
In the long run, all inputs are variable. A firm In the long run, all inputs are variable. A firm has enough time to choose the size of its has enough time to choose the size of its factory, farm, office building, or other capital factory, farm, office building, or other capital goods.goods.
The firm can choose from many short-run The firm can choose from many short-run cost curves. The bottom points of the short-cost curves. The bottom points of the short-run average cost curves make up the long-run average cost curves make up the long-run average cost curve.run average cost curve.
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
Unit 5 - Cost FunctionsUnit 5 - Cost Functions• The Long-run Average Cost CurveThe Long-run Average Cost Curve
Long-run average costs fall as production first rises.Long-run average costs fall as production first rises.
This is called economies of scale (EOS).This is called economies of scale (EOS).
When the firm gets too big, long-run average costsWhen the firm gets too big, long-run average costs
rise. This is called diseconomies of scale (DOS).rise. This is called diseconomies of scale (DOS).
Microeconomics
EOS DOS
Average Costs
Quantity Produced
• Returns to ScaleReturns to Scale
When inputs increase, and production more When inputs increase, and production more than proportionately increases, then we than proportionately increases, then we speak of increasing returns to scale speak of increasing returns to scale (associated with economies of scale).(associated with economies of scale).
ExampleExampleInputs increase by 10%, and production Inputs increase by 10%, and production increases by 20%.increases by 20%.
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Returns to ScaleReturns to Scale
When inputs increase, and production less When inputs increase, and production less than proportionately increases, then we than proportionately increases, then we speak of decreasing returns to scale speak of decreasing returns to scale (associated with diseconomies of scale).(associated with diseconomies of scale).
ExampleExampleInputs increase by 10%, and production Inputs increase by 10%, and production increases by 5%.increases by 5%.
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions
• Returns to ScaleReturns to Scale
When inputs increase, and production When inputs increase, and production increases by the same percentage, then we increases by the same percentage, then we speak of constant returns to scale.speak of constant returns to scale.
ExampleExampleInputs increase by 10%, and production Inputs increase by 10%, and production increases by 10%.increases by 10%.
Microeconomics
Unit 5 - Cost FunctionsUnit 5 - Cost Functions