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Copyright 2002, Pearson Education Canada1 Isoquants and Isocosts Appendix to Chapter 7

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Copyright 2002, Pearson Education Canada2 Isoquants zAn isoquant is a graph that shows all the combinations of capital and labour that can be used to produce a given amount of output.

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Copyright 2002, Pearson Education Canada3 Properties of Isoquant Maps zThere are an infinite number of combinations of labour and capital that can produce each level of output. zEvery point lies on some isoquant. zThe slope of an isoquant is equal to: - MP labour / MP capital = - MP L / MP K = ΔK / ΔL zThe slope of the isoquant is called the marginal rate of technical substitution which can be defined as the rate at which a firm can substitute capital for labour and hold output constant.

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Copyright 2002, Pearson Education Canada4 Isoquants Showing All Combinations of Capital and Labour That Can Be Used to Produce 50, 100, and 150 Units of Output (Figure 7A.1)

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Copyright 2002, Pearson Education Canada5 The Slope of an Isoquant Is Equal to the Ratio of MP L to MP K (Figure 7A.2)

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Copyright 2002, Pearson Education Canada6 Isocosts zAn isocost is a graph that shows all the combinations of capital and labour available for a given cost.

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Copyright 2002, Pearson Education Canada7 Isocost Lines Showing the Combinations of Capital and Labour Available for $5, $6, and $7 (Figure 7A.3)

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Copyright 2002, Pearson Education Canada8 Isocost Line Showing All Combinations of Capital and Labour Available for $25 (Figure 7A.4) zThe slope of an isocost line is equal to - P L / P K. zThe simple way to draw an isocost is to calculate the endpoints on the line and connect them.

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Copyright 2002, Pearson Education Canada9 The Cost Minimizing Equilibrium Condition zSlope of isoquant = - MP L / MP K zSlope of isocost = - P L / P K zFor cost minimization we set these equal and rearrange to obtain: MP L / P L = MP K / P K

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Copyright 2002, Pearson Education Canada10 Finding the Least-Cost Combination of Capital and Labour to Produce 50 Units of Output (Figure 7A.5) zProfit-maximizing firms will minimize costs by producing their chosen level of output with the technology represented by the point at which the isoquant is tangent to an isocost line. zPoint A on this diagram

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Copyright 2002, Pearson Education Canada11 Minimizing Cost of Production for q x = 50, q x = 100, and q x = 150 (Figure 7A.6) zPlotting a series of cost- minimizing combinations of inputs - shown here as A, B and C - enables us to derive a cost curve.

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Copyright 2002, Pearson Education Canada12 A Cost Curve Showing the Minimum Cost of Producing Each Level of Output (Figure 7A.7)

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Copyright 2002, Pearson Education Canada13 Review Terms & Concepts zisocost line zisoquant zmarginal rate of technical substitution

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