Short-run costs and output decisions 8 CHAPTER

Short-Run Cost Total cost (TC) is the cost of all productive resources used by a firm. Total fixed cost (TFC) is the cost of all the firm’s fixed inputs. Total variable cost (TVC) is the cost of all the firm’s variable inputs. Total cost (TC) is the cost of all productive resources used by a firm. TC = TFC + TVC

Total Cost Curves Total fixed variable Total cost cost cost Labor Output(TFC)(TVC) (TC) (workers (sweaters per day) per day) (dollars per day) a 0 0 b 1 4 c 2 10 d 3 13 e 4 15 f 5 16

Total Cost Curves Total fixed variable Total cost cost cost Labor Output(TFC)(TVC) (TC) (workers (sweaters per day) per day) (dollars per day) a b c d e f

Total Cost Curves Total fixed variable Total cost cost cost Labor Output(TFC)(TVC) (TC) (workers (sweaters per day) per day) (dollars per day) a b c d e f

Total Cost Curves Total fixed variable Total cost cost cost Labor Output(TFC)(TVC) (TC) (workers (sweaters per day) per day) (dollars per day) a b c d e f

Total Cost Curves TCC TC TVC Cost (dollars per day) TFC TC = TFC + TVC Output (sweaters per day)

Marginal Cost Marginal cost is the increase in total cost that results from a one-unit increase in output. It equals the increase in total cost divided by the increase in output. Marginal costs decrease at low outputs because of the gains from specialization, but it eventually increases due to the law of diminishing returns.

Average Cost Average fixed cost (AFC) is total fixed cost per unit of output. Average variable cost (AVC) is total variable cost per unit of output. Average total cost (ATC) is total cost per unit of output.

Average Cost AC TC = TFC + TVC TC TFC TVC Q Q Q =+ OR ATC = AFC + AVC

Marginal Cost and Average Costs MC ATC AVC AFC Cost (dollars per sweater) ATC = AFC + AVC

Economic Profit and Revenue Total revenue is the value of a firm’s sales. Total revenue = P  Q Marginal revenue (MR) Change in total revenue resulting from a one-unit increase in quantity sold. Average revenue (AR) Total revenue divided by the quantity sold—revenue per unit sold. In perfect competition, Price = MR = AR

Total Revenue, Total Cost, and Economic Profit TR, TC TC Quantity (sweaters per day) Total revenue & total cost (dollars per day) TR Economic loss Economic profit = TR - TC Economic loss

Total Revenue, Total Cost, and Economic Profit EP Quantity (sweaters per day) Profit maximizing quantity Profit/ loss Economic profit Economic loss Profit/loss (dollars per day) Economic profit/loss

Marginal Analysis If MR > MC, the extra revenue from selling one more unit exceeds the extra cost. The firm should increase output to increase profit. If MR < MC, the extra revenue from selling one more unit is less than the extra cost. The firm should decrease output to increase profit. If MR = MC economic profit is maximized

Profit-Maximizing Output MA MR 25 MC Profit- maximization point Loss from 10th sweater Profit from 9th sweater 0 Marginal revenue & marginal cost (dollars per day) Quantity (sweaters per day)

A Firm’s Supply Curve SC MR 2 MR 1 Quantity (sweaters per day) Marginal revenue & marginal cost (dollars per day) MC = S MR 0 AVC s Shutdown point 0

A Firm’s Supply Curve SC Marginal revenue & marginal cost (dollars per day) S s 0

The Firm’s Decisions in Perfect Competition In the short-run, the firm must decide: Whether to produce or to shut down. If the decision is to produce, what quantity to produce.

Three Possible Profit Outcomes in the Short-Run NP Price (dollars per chip) AR = MR MCATC Break-even point Normal profit 0 Quantity (millions of chips per year)

Three Possible Profit Outcomes in the Short-Run EP Economic Profit 0 Price (dollars per chip) AR = MR MCATC Economic profit Quantity (millions of chips per year)

Three Possible Profit Outcomes in the Short-Run EL Economic loss AR = MR MC ATC Economic loss Quantity (millions of chips per year)

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