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Chapter 4 : Cost and Production Theory - Coggle Diagram
Chapter 4 : Cost and Production Theory
Cost of Production
the total price paid for resources used to manufacture a product or create a service to sell to consumers
raw materials
labor
overhead
Short run in Production Cost
the cost which has short-term implications in the production process, i.e. these are used over a short range of output
the cost incurred once and cannot be used again and again
Example
payment of wages
cost of raw materials
Fixed cost/ sunk cost
does not depend on the firm’s level of output
As output increases, TFC remains constant and AFC declines
Variable cost
cost that depends on the level of production chosen
shows the cost of production using the best available technique at each output level, given current factor prices
Formula
Marginal cost
the increase in total cost that results from producing one more unit of output
ATC and MC
MC above ATC, ATC increase
MC intersects ATC, AVC at the lowest
MC below ATC, ATC declines towards MC
Output Decisions
Perfectly elastic demand
Total Revenue
the total amount that a firm takes in from the sale of its output
Marginal Revenue
the additional revenue that a firm takes in when it increases output by one additional unit
perfect competition
P = MR
Profit- maximizing level
MR = MC
The profit-maximizing output is q
, the point at which P
= MC
Long Run in Production Cost
Period of time long enough for firms to change the quantities of all resources employed including capital and new factories
no distinction between FC and VC
The long run curve is created by combining all the lowest ATC at any output of the short run curves
Economies of Scale
A firm achieves economies of scale when it is able to decrease the per unit cost of production (ATC) as output increases
Internal Economies
advantages obtained due to modern techniques
Types
Labor Specialization
As plant size increases, more workers are hired and labor becomes increasingly specialized
Marketing Economies
Occur when larger firms are able to lower the unit cost of advertising and promotion
Managerial Specialization
As a firm grows, there is greater potential for managers to specialize in particular tasks
Efficient Capital
Larger plants can afford better, more efficient equipment
External Economies
advantages obtained by external factors
arise as a result of the expansion of the industry as a whole
Types
Facility of Workshop
Concentration of firms provides incentive for the technical persons to establish their workshops
Helping Industry
This economy arises because of concentration of firms
Skilled Labour
With the concentration of firms skilled labour is available to all the firms because people living in the nearby areas get technical training
Research and Experiment
In local industry, research and development are centralized
Transportation and Communication
Concentration of firms provides better communication system for all
Banking Facility
The basic aim of a commercial bank is to maximize profits
Diseconomies of Scale
Overexpansion of Management leads to
Miscommunication
Slower decision-making
Lower action in the face of changes in consumer tastes or technology
Bureaucratic red tape
