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Lecture Economics (6/e): Chapter 20 - Stephen L. Slavin

This chapter presents the following content: Fixed cost, variable cost, and total cost; marginal cost; short run and long run; shut-down and go-out-of-business decisions; average cost; graphing the AFC, AVC, ATC, and MC curves; the law of diminishing returns; economies and diseconomies of scale; the long-run planning envelope curve. | Chapter 20 Cost Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 20-1 Chapter Objectives Fixed cost, variable cost, and total cost Marginal cost Short run and long run Shut-down and go-out-of-business decisions Average cost Graphing the AFC, AVC, ATC, and MC curves The law of diminishing returns Economies and diseconomies of scale The long-run planning envelope curve 20-2 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Costs Sales - Costs = Profit Total Revenue - Total Cost = Profit Total Revenue - Total Cost Profit or or (Bottom Line) 20-3 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Fixed Cost Fixed cost stays the same no matter how much output changes Some examples of fixed cost are rent, insurance, salaries, property taxes, and interest payments Even when a firm’s output is zero, it incurs the same fixed cost Fixed costs are sometimes called “sunk cost” because once you have obligated yourself to pay them, that money has been sunk into your firm The trick is to spread these (fixed) cost over as much output as possible In other words, to spread your overhead over a large output 20-4 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Variable Cost Variable costs “vary” with output Output rises, variable costs rise Output falls, variable costs fall Some examples of variable costs are wages of production workers, fuel, raw materials, electricity, and shipping A cost may be part fixed and part variable The electricity used by production is a variable cost because it will go up or down with production Even if your output fell to zero, you would still have to pay something on your electric bill Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 20-5 Total Cost Total cost is the sum of fixed and variable cost TC = FC + VC 20-6 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Hypothetical Cost Schedule Output FC VC TC 0 $1000 $ 0 . | Chapter 20 Cost Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 20-1 Chapter Objectives Fixed cost, variable cost, and total cost Marginal cost Short run and long run Shut-down and go-out-of-business decisions Average cost Graphing the AFC, AVC, ATC, and MC curves The law of diminishing returns Economies and diseconomies of scale The long-run planning envelope curve 20-2 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Costs Sales - Costs = Profit Total Revenue - Total Cost = Profit Total Revenue - Total Cost Profit or or (Bottom Line) 20-3 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. Fixed Cost Fixed cost stays the same no matter how much output changes Some examples of fixed cost are rent, insurance, salaries, property taxes, and interest payments Even when a firm’s output is zero, it incurs the same fixed cost Fixed costs are sometimes called “sunk cost” because once you have obligated yourself to pay them, .