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Production costs in the short term. Relationship between average and marginal costs.






 

Short-run Production Costs

Fixed, Variable, and Total Costs:

Fixed Cost: costs that do not change with the level of output. Even if you produce nothing, you must still pay your fixed costs.

Beyond current control

Examples: Rental payments, interest on a firm's debts, insurance premiums, and a portion of deprecation on equipment and buildings, insurance premiums

Variable Cost: costs that change with the amount of output. Total Variable Costs are the sum of all of the variable costs, and costs that change with level of output.

Variable costs first increase by a decreasing amount, but later it increase by increasing amounts (due to MP curve)

Examples: payments for materials, fuel, power, transportation services, labor, etc.

Can be controlled in the short run by changing production levels

Total Cost: The sum of fixed cost and variable cost at each level of output

increases by the same amount as variable cost

Because the total cost is simply the variable cost + fixed cost, it is a graphically simple curve to outline.

TC = TFC + TVC

AFC: average fixed costs which is the total fixed cost divided by the quantity

AFC = TFC/Q

declines as output increases (spreading the overhead)

AVC: average variable costs which is the total variable cost divided by the quantity

AVC = TVC/Q

declines as variable resources (labor) increase output, reaches a minimum, and then increases again as the Law of Diminishing Returns sets in

at the low levels of output production is relatively inefficient and costly.

ATC: Average Total Cost

ATC = TC/Q = TFC/Q + TVC/Q = AFC + AVC

Can be found graphically by adding vertically the AFC and AVC curves

Vertical distance between ATC and AVC curves measures AFC at any level of output

The vertical distance between ATC and AVC curves will continue to decrease, as the AFC continues to decrease.

 

Marginal cost is the cost incurred in producing an additional unit of a product. It is the cost per unit of a product as against the total cost. It is therefore the variable cost of producing one more unit of a product.

 

Average total cost is the total cost of production at an activity level. it is the total cost of divided by the total production.

 

Whiles marginal cost shows the cost incurred in producing an additional unit of a product, average cost shows the total cost of production per unit.

Just a small addition to this thought:

marginal cost is being at a point in time, whereas the average total cost is calculated over a period of time. As a result, marginal cost at any given point may be higher or lower than an average total cost.

 

 






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