Cost Curves
Cost curves in economics show the relationship between the quantity of goods produced and the costs incurred. The main types of cost curves include the average total cost curve, average variable cost curve, and marginal cost curve. These curves are essential for firms to make production decisions and determine the most efficient level of output.
8 Key excerpts on "Cost Curves"
eBook - ePub- Enrico Colombatto(Author)
- 2016(Publication Date)
- Routledge(Publisher)
...It provides an effective synthesis of the outcomes generated by the producers’ choices aiming at efficiency broadly understood, and it is the benchmark with respect to which competitiveness is assessed, since the nearer the firm is to its total-cost curve, the better its short-run position in the industry and its chances to make profits or contain losses. In this and the following sections, we shall go one step further and show that closer inspection of the firm's cost structure also provides useful insights about how producers determine the profit-maximising level of output, about when it pays to stop producing and wait for better times, and about when it is advisable to liquidate the company and quit the industry altogether. Here, however, economics usually departs from total-Cost Curves, preferring instead to focus on ‘average costs’ and ‘marginal costs’. To these categories we now turn our attention. Average cost is total cost divided by the quantity of output. In other words, average cost is the cost per unit of output. Of course, since total costs are the sum of fixed and variable costs, average cost is the sum of average fixed cost and average variable cost. This is illustrated in Figure 4.2, in which the dashed lines describe average fixed and variable costs, and the continuous lines are average (total) cost. Note that the average fixed-cost curve represented in the figure slopes downward until X 1, the threshold beyond which a new wave of fixed costs needs to be incurred – for example, to increase production capacity. Until that point (X 1), an increase in output means that a given amount of (fixed) initial costs is spread over larger and larger amounts of goods and services and that, therefore, the burden of such costs per each unit of output becomes lighter and lighter. Figure 4.2 Average Cost Curves By contrast, average variable Cost Curves are usually U-shaped. Two things account for this...
eBook - ePub- Milton Friedman(Author)
- 2017(Publication Date)
- Routledge(Publisher)
...If total variable costs approach zero as output approaches zero, the average variable cost approaches marginal cost as output approaches zero; otherwise average variable costs approach infinity as output approaches zero. In all cases, of course, average variable costs fall if they exceed marginal costs and rise otherwise. These average variable Cost Curves are themselves to be regarded as rather special kinds of marginal Cost Curves—they show the change in cost per unit of output occasioned by producing the given output rather than none at all, whereas the usual marginal Cost Curves show the change in cost per unit of output occasioned by producing a little more or a little less. The firm’s output decisions The Cost Curves in Figure 5.18 provide the basis for answering a number of different questions about the firm’s decisions. Though in general we have been dealing with competitive conditions on the product market, we may here be more general and include monopolistic conditions as well. 1 Optimum output for a given demand curve The demand curve for the product of the individual firm shows the maximum quantity the firm can sell at various prices under given conditions of demand. The curve marginal to the demand curve shows the marginal revenue: that is, the rate at which total receipts change per unit change in output in consequence of selling a little more or less. The prices on the demand curve itself show the average revenue from the corresponding sales. Like the average variable cost curve, the average revenue curve can also be regarded as a rather special kind of marginal curve: it shows the change in total receipts per unit of product occasioned by selling the given output rather than none at all. Let us now ask what the optimum output for the firm is under given conditions of cost and demand...
eBook - ePub- Andrew Barkley, Paul W. Barkley(Authors)
- 2016(Publication Date)
- Routledge(Publisher)
...Average variable costs are variable costs divided by the level of output. Average total costs are total costs divided by the level of output. Marginal cost is the additional cost of producing one more unit of output. A typical total cost curve increases at a decreasing rate, and then increases at an increasing rate, as diminishing marginal returns set in. If MC > AC, the average costs are increasing; if MC < AC, then average costs are decreasing. A firm’s Cost Curves reflect the firm’s productivity: An increase in productivity is identical to a decrease in costs. A constant cost firm faces constant production costs for all units of output produced. A decreasing cost firm has per-unit costs that decrease as output increases. An increasing cost firm has increasing per-unit costs as output increases. A firm with “typical” Cost Curves is one whose average costs decrease then increase. 3.8 Glossary Accounting Costs. Explicit costs of production; costs for which payments are required. Accounting Profits [r A ] Total revenue minus explicit costs. π A = TR – TC A (see Economic Profits). Average Costs [AC] Total costs per unit of output. AC = TC/Y. Note that average costs are identical to Average Total Costs (ATC). Average Fixed Costs [AFC] The average cost of the fixed costs per unit of output. AFC = TFC/Y. Average Total Costs [ATC] The average total cost per unit of output. ATC = TC/Y. Note that Average Costs (AC) are identical to average total costs. Average Variable Costs [AVC] The average cost of the variable costs per unit of output. AVC = TVC/Y. Costs of Production The payments that a firm must make to purchase inputs (resources, factors). Economic Profits [r E ] Total revenue minus both explicit and opportunity costs...
eBook - ePub- Andrew Barkley, Paul W. Barkley(Authors)
- 2020(Publication Date)
- Routledge(Publisher)
...Average variable costs are variable costs divided by the level of output. Average total costs are total costs divided by the level of output. Marginal cost is the additional cost of producing one more unit of output. A typical total cost curve increases at a decreasing rate and then increases at an increasing rate as diminishing marginal returns set in. If MC > AC, the average costs are increasing; if MC > AC, then average costs are decreasing. A firm’s Cost Curves reflect the firm’s productivity: an increase in productivity is identical to a decrease in costs. A constant cost firm faces constant production costs for all units of output produced. A decreasing cost firm has per-unit costs that decrease as output increases. An increasing cost firm has increasing per-unit costs as output increases. A firm with “typical” Cost Curves is one whose average costs decrease then increase. 3.8 Chapter 3 glossary Accounting Costs —Explicit costs of production; costs for which payments are required. Accounting Profits [π A ] —Total revenue minus explicit costs. π A = TR – TC A (see Economic Profits). Average Costs [AC] —Total costs per unit of output. AC = TC/Y. Note that average costs (AC) are identical to average total costs (ATC). Average Fixed Costs [AFC] —The average cost of the fixed costs per unit of output. AFC = TFC / Y. Average Total Costs [ATC] —The average total cost per unit of output: ATC = TC / Y. Note that average costs (AC) are identical to average total costs (ATC). Average Variable Costs [AVC] —The average cost of the variable costs per unit of output: AVC = TVC / Y. Costs of Production —The payments that a firm must make to purchase inputs (resources, factors). Economic Profits [π E ] —Total revenue minus both explicit and opportunity costs...
eBook - ePub- Rob Dransfield(Author)
- 2013(Publication Date)
- Routledge(Publisher)
...This effect pulls the curve down at a slower and slower rate. So if total fixed costs are £1,000, producing two units rather than one will lower the fixed cost from £1,000 to produce 1 unit to £500 to produce 2 units. However, at much higher levels of output – for example, producing 1,000 units rather than 999 – you will only be reducing the average fixed cost from £1.11 to £1.00 – that is, by just a few pence. Average variable cost falls initially as the firm is able to combine its factors of production more efficiently. However, there comes a point at which inefficiencies creep into the production plant. The lowest point on the average cost curve shows the point at which the business is combining its resources most efficiently. We call this lowest point the optimum output level or minimum efficient scale. 4.4 Costs at different levels of output Costs and output We are now in a position to examine the relationship between the various types of costs and output levels. Total and average cost Case Study Manufacturing paint A paint manufacturer has calculated that fixed costs for the business are £1,000 per week. These are made up of the costs of advertising, transporting paint to the store, lighting and heating, as well as the rent and rates of running the business...
eBook - ePub- Bonnie Nguyen, Andrew Wait(Authors)
- 2015(Publication Date)
- Routledge(Publisher)
...The long-run average cost curve is the broken black curve that runs beneath them. As more short-run average Cost Curves are drawn in, the long-run average cost curve will become smoother The term economies of scale refers to cost advantages that a firm obtains from increasing its output. Specifically, if long-run average costs are decreasing with output, this is called economies of scale. On the other hand, if long-run average costs are increasing with output, this is known as diseconomies of scale. If long-run average costs are constant as output expands, by definition there are constant average costs. 4 These three cases are illustrated in Figure 7.5. Figure 7.5 When the LRAC curve is downward-sloping, the firm is experiencing economies of scale; when the LRAC curve is upward-sloping, there are diseconomies of scale. When the LRAC curve is flat, there are constant average costs 7.5.3 A final note Even though we have allowed all inputs to be variable in the long run, we have also implicitly assumed that several things remain constant. First, we have assumed that input prices are fixed. Second, we have assumed that there have been no changes in the state of technology that would affect a firm’s ability to produce output. Of course, in the real world these changes are typical and important, but we have abstracted from such changes in order to better understand a firm’s costs in both the long run and the short run. 7.6 Total revenue, total cost and economic profit In order to derive a firm’s economic profit, we will need to define its total revenue and total cost. Total revenue (TR) is the amount a firm receives for the sale of its output. This will be the price at which the firm sells each unit, multiplied by the quantity of units sold: 7.3 T R = P × Q Total costs (TC) refers to the economic costs that a firm incurs for producing output, as we have discussed in this chapter. When we refer to economic costs, we include all opportunity costs...
eBook - ePubContemporary Economics
An Applications Approach
- Robert Carbaugh(Author)
- 2016(Publication Date)
- Routledge(Publisher)
...The short run is a period during which the quantity of at least one input is fixed and the quantities of other inputs can be varied. The long run is a period during which all inputs are considered to be variable in amount. The relationship between physical output and the quantity of resources used in the production process is called a production function. A production function shows the maximum amount of output that can be produced with a given amount of resources. According to the law of diminishing marginal returns, as a firm adds more of a variable input to a fixed input, beyond some point the marginal productivity of the variable input diminishes. A firm that produces goods in the short run employs fixed inputs and variable inputs. Fixed costs are payments to fixed inputs, and they do not vary with output. Variable costs are payments to variable inputs, and they increase as output expands. We can describe a firm’s costs in terms of a total approach: total fixed cost, total variable cost, and total cost. We can also describe them in terms of a per-unit approach: average fixed cost, average variable cost, and average total cost. Marginal cost refers to the change in total cost when another unit of output is produced. The short-run marginal cost curve is generally U-shaped, reflecting the law of diminishing marginal returns. The long-run average total cost curve shows the minimum cost per unit of producing each output level when any size of factory can be constructed. Economies of scale and diseconomies of scale account for the U-shaped appearance of this cost curve. In discussing the general shapes of a firm’s Cost Curves in the short and long run, we assume that technology, resource prices, and taxes remain constant as the firm changes its level of output...
eBook - ePub- Gary Becker(Author)
- 2017(Publication Date)
- Routledge(Publisher)
...Although this formula is a mathematical relation between different mathematical functions and is not derived from any economic principles, it is useful in understanding the relation between average and marginal cost. Equation (16-3) implies MC < AC where AC is falling (∈ AC < 0); MC = AC where AC is horizontal (∈ AC = ͩ); and MC > AC where AC is increasing (∈ AC > 0). These properties are illustrated by the MC and AC curves in Figure 16.1. The exact relation between supply and Cost Curves depends on a firm’s utility function. The qualitative relation is, however, similar for a variety of functions (as shown in Problem 15-1) and can, therefore, be illustrated by income maximization. Income is maximized where marginal revenue equals marginal cost. If MR > MC, an additional unit of output increases income by the amount MR — MC; similarly, if MR < MC, a reduction in output by one unit increases income by the amount MC — MR. Thus, so long as the optimal quantity supplied is positive, it must be where MR = MC. The competitive firm which faces the demand curve p 0 in Figure 16.1 determines its supply by the intersection of p 0 with its marginal cost curve since p 0 = MR. (Why?) The MC curve is its supply curve as long as its output is positive— that is, as long as p ≥ p* if AC is its average cost curve; its supply curve would be on the vertical axis for p > p* (for p less than the maximum point on AC), because its income would then be maximized by zero production. FIGURE 16.2 Since the industry supply curve is the horizontal sum of the firms’ supply curves, it would also be the horizontal sum of the relevant sections of the firms’ marginal Cost Curves. The marginal costs of all firms must be equal to each other at every point on the industry supply curve, for each is equal to the same market price...
