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ECW 2731
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Weeks ECW2731 5 & 6
Weeks5&6
ProductionandCosts
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity
Problem I
Try problems 3.1 3.13 from the text
Kitty Russells Longbranch Caf recently reduced a price for Nachos Supreme appetizers from $5 to $3 and enjoyed a resulting increase in sales from 60 to 180 orders a day. Beverage sales also increased from 30 to 150 units a day. A. Calculate the arc elasticity of demand for Nachos Supreme appetizers B. Calculate the arc cross-price elasticity of demand between beverage sales and appetizer prices C. Holding all else equal, would you expect an additional appetizer price decrease to $2.50 to cause both appetizer and revenue to rise.
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity
Problem II
During the past year Ironside 15 million square yards (units) of carpeting at average price $7.75 per unit. This year GNP per capita is expected to surge from $17,250 to $18,750. Without any price change the sales are expected to rise to 25 million units. A. Calculate the income arc elasticity of demand:
B. Calculate the arc cross-price elasticity of demand between beverage sales and appetizer prices C. Holding all else equal would a further increase in price result in higher or lowe rtotal revenue.
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Cross-Price elasticity
Problem III
Sales of a sporting companys garment bag declined from 10000 to 4800 units. At the same time a competitor offered a $52 discount off their regular $137 price on a competitive product. A. Calculate the arc cross-price elasticity of demand B. They recovered there sales to 6000 units following reduction in price from $140 t0 $130. Calculate the price elasticity of demand
C. If the price elasticity is constant, determine the further price reduction necessary to fully recover lost sales (regain a volume of 10000 units)
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price and Cross-Price elasticity
Problem I
Kitty Russells Longbranch Caf recently reduced a price for Nachos Supreme appetizers from $5 to $3 and enjoyed a resulting increase in sales from 60 to 180 orders a day. Beverage sales also increased from 30 to 150 units a day. A. Calculate the arc elasticity of demand for Nachos Supreme appetizers
Q / Q Q P ( arc ) Q ( P + P2 ) / 2 Q2 Q1 P + P2 p = = p = 1 = 1 P (Q1 + Q2 ) / 2 P2 P Q1 + Q2 P / P P Q 1 P = 5; P2 = 3; Q1 = 60; Q2 = 180 1 p
( arc )
180 60 3+5 = = 2 35 180 + 60
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price and Cross-Price elasticity
Problem I
Kitty Russells Longbranch Caf recently reduced a price for Nachos Supreme appetizers from $5 to $3 and enjoyed a resulting increase in sales from 60 to 180 orders a day. Beverage sales also increased from 30 to 150 units a day. B. Calculate the arc cross-price elasticity of demand between beverage sales and appetizer prices
QY ( PX 1 + PX 2 ) / 2 QY 2 QY 1 PX 1 + PX 2 QY / QY QY PX arc (px ) = = px = = PX (QY 1 + QY 2 ) / 2 PX 2 PX 1 QY 1 + QY 2 PX / PX PX QY
QY 1 = 30; QY 2 = 150; PX 1 = 5; PX 2 = 3
px
( arc )
150 30 3+5 = = 2.67 35 150 + 30
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price and Cross-Price elasticity
Problem I
Kitty Russells Longbranch Caf recently reduced a price for Nachos Supreme appetizers from $5 to $3 and enjoyed a resulting increase in sales from 60 to 180 orders a day. Beverage sales also increased from 30 to 150 units a day. C. Holding all else equal, would you expect an additional appetizer price decrease to $2.50 to cause both appetizer and revenue to rise.
The answer does not require further calculations.
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price & income elasticity
Problem II
During the past year Ironside 15 million square yards (units) of carpeting at average price $7.75 per unit. This year GNP per capita is expected to surge from $17,250 to $18,750. Without any price change the sales are expected to rise to 25 million units. A. Calculate the income arc elasticity of demand:
Q / Q Q I Q ( I1 + I 2 ) / 2 Q2 Q1 I1 + I 2 ( arc ) I = = I = = I (Q1 + Q2 ) / 2 I 2 I1 Q1 + Q2 I / I I Q I1 = 17, 250 I 2 = 18, 750; Q1 = 15; Q2 = 25 I
( arc )
25 15 18750 + 17250 = =6 18750 17250 25 + 15
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price & income elasticity
Problem II
During the past year Ironside 15 million square yards (units) of carpeting at average price $7.75 per unit. This year GNP per capita is expected to surge from $17,250 to $18,750. Without any price change the sales are expected to rise to 25 million units. B. The marketing director believes, that current volume of 15 million units could be maintained despite an increase in price of 50c per unit. On this basis calculate the implied arc price elasticity of demand
p
( arc )
Q ( P + P2 ) / 2 Q2 Q1 P + P2 = 1 = 1 P (Q1 + Q2 ) / 2 P2 P Q1 + Q2 1
Without the price increase the sales would be 25 million units. The manager is looking at increase in price and maintaining the previous year sales of 15 million units.
P = 7.75; P2 = 8.25; Q1 = 25; Q2 = 15 1 p
( arc )
15 25 8.25 + 7.75 = = 8 8.25 7.75 15 + 25
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Price & income elasticity
Problem II
During the past year Ironside 15 million square yards (units) of carpeting at average price $7.75 per unit. This year GNP per capita is expected to surge from $17,250 to $18,750. Without any price change the sales are expected to rise to 25 million units. C. Holding all else equal would a further increase in price result in higher or lowe rtotal revenue.
Lower. The product is elasic.
(parc ) = 8
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Cross-Price elasticity
Problem III
Sales of a sporting companys garment bag declined from 10000 to 4800 units. At the same time a competitor offered a $52 discount off their regular $137 price on a competitive product. A. Calculate the arc cross-price elasticity of demand
QY 1 = 10000; QY 2 = 4800; PX 1 = 137; PX 2 = 85
QY 2 QY 1 PX 1 + PX 2 = = 1.5 PX 2 PX 1 QY 1 + QY 2
The goods are substitutes
px
( arc )
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Cross-Price elasticity
Problem III
Sales of a sporting companys garment bag declined from 10000 to 4800 units. At the same time a competitor offered a $52 discount off their regular $137 price on a competitive product. B. They recovered there sales to 6000 units following reduction in price from $140 t0 $130. Calculate the price elasticity of demand
P = 140; P2 = 130; Q1 = 4800; Q2 = 10000 1
p
( arc )
Q2 Q1 P + P2 = 1 = 3 P2 P Q1 + Q2 1
The demand is elastic
Demand analysis and estimation
ECW2731 Weeks 5 & 6
Elasticity Cross-Price elasticity
Problem III
Sales of a sporting companys garment bag declined from 10000 to 4800 units. At the same time a competitor offered a $52 discount off their regular $137 price on a competitive product. C. If the price elasticity is constant, determine the further price reduction necessary to fully recover lost sales (regain a volume of 10000 units)
P = 140; P2 = 130; Q1 = 4800; Q2 = 10000 1
Q2 Q1 P + P2 10000 6000 130 + P2 1 p = = 3 = P2 P Q1 + Q2 P2 130 10000 + 6000 1 10000 6000 130 + P2 4000 130 + P2 130 + P2 3 = = = 10000 + 600 P2 130 P2 130 1600 P2 130 4( P2 130)
( arc )
12 P2 + 1560 = P2 + 130 13P2 = 1430 P2 = $110
ECW2731 Weeks 5 & 6
Structure
Weeks 7-8 Competition, market structures and business decisions Week 9 Pricing strategies and practices Week 10 Business and Government.
Weeks 5 - 6 Production and Costs
Weeks 3-4 Demand analysis and estimation Week 2 Basic economics principles: demand and supply. Week1 Introduction. The nature of managerial economic decision making
Managerial Economics
Week 11 Capital budgeting
Week. 12 Research question Business and current economic situation.
ECW2731 Weeks 5 & 6
Production and Costs
Production functions Factors of production Total, marginal and average product, revenue and costs Return to factors versus return to scale Firm and plant size Economies and diseconomies of scale Optimal level of single input and optimal combination of multiple inputs Fixed and variable costs Explicit and implicit costs Short run versus long run in cost analysis
Production and Costs
ECW2731 Weeks 5 & 6
Learning objectives
This topic addresses the following questions:
At given demand conditions, how does a firm determine the optimal level of output during any production period? How does a firm choose the best technology (production process) out of existing ones? How does investment in a new equipment affects employment and productivity of labour? How do costs and output are interrelated?
Production and Costs
ECW2731 Weeks 5 & 6
Reading
Mansfield, Chapters 7, 8 & 9.
Production and Costs
ECW2731 Weeks 5 & 6
Production functions
Descriptive statement/variable that relates Inputs to outputs. Specifies the maximum output that can be produced at a given level of input (inputs) Is determined by the level of technology.
Production and Costs
ECW2731 Weeks 5 & 6
Factors of production
Labour Capital Labour Capital Mineral resources Land Materials Energy, Seeds Live stock Rolling stock Rail tracks Roads Plant equipment Farm machinery and equipment
Production and Costs
ECW2731 Weeks 5 & 6
A numerical example
Total, marginal and average product
Input quantity (X) 1 2 3 4 5 6 7 8 9 10
Total Marginal prduct product of of input input X (Q) (MPx) 15 31 48 59 68 72 73 72 70 67
Average product of input X (APx)
Q Q2 Q1 MPX = = X X 2 X 1
Q APX = X
Production and Costs
ECW2731 Weeks 5 & 6
A numerical example
Total, marginal and average product
Input quantity (X) 1 2 3 4 5 6 7 8 9 10
Marginal Average Total product of product of prduct of input X input X input (Q) (MPx) (APx) 15 15 31 16 15.5 48 17 16 59 11 14.75 68 9 13.6 72 4 12 73 1 10.42857 72 -1 9 70 -2 7.777778 67 -3 6.7
Q Q2 Q1 MPX = = X X 2 X 1
Q APX = X
Production and Costs
ECW2731 Weeks 5 & 6
Total, marginal and average product
80 70 60 50 40 30 20 10 0 -10 0 5 10 15 Total prduct of input (Q) Marginal product of input X (MPx) Average product of input X (APx)
Production and Costs
ECW2731 Weeks 5 & 6
Return to factors
Totaloutput(Q) C Q* (a) A TP x
B
X1
X2 Input X
X3
Production and Costs
ECW2731 Weeks 5 & 6
Return to factors
Law of diminishing returns
Averageand marginaloutput Q ,Q X X Increasing returns (b) A' Diminishing returns B' AP x X1 X2 C' X3 MPx X Negative returns
Input
As the quantity of variable input increases the resulting rate of output increase eventually diminishes
Production and Costs
ECW2731 Weeks 5 & 6
Isoquants
Each point on the Isoquant represents A different combination of two inputs that can be used to produce the same amount of output
InputY 10 9 8 7 6 5 4 3 2 1 0 1 2 3 4
Q 122 =
MRTS XY
X = Y
The slope of the isoquant at a particular point
Q=91
5 6 7 8 9 10 InputX
Production and Costs
ECW2731 Weeks 5 & 6
Isoquants
Perfect substitution
Gas
Q
3
Q2 Q 1
Oil
Production and Costs
ECW2731 Weeks 5 & 6
Isoquants
Zero substitution
Frames 5 4 3 2 1 0 2 4 Wheels Q3=3 Q2=2 Q1=1Bicycle 6
Production and Costs
ECW2731 Weeks 5 & 6
Isoquants
Imperfect substitution
Decrease in one factor Requires more and more Of the other one for substitution
Cloth
C1 C2 C3 L1 L2 L3 Labor
Q 3 Q2 Q1
Production and Costs
ECW2731 Weeks 5 & 6
Isoquants
Marginal rate of technical substitution the slope of an isoquant at a particular point
InputY 10 9 8 7 6 5 4 3 2 1 0 1 2 3 4
MRTS XY
Y = X
Q 122 =
Q = MPY Y
Q = MPX X MPX X = MPY Y MPX Y = MPY X
Q=91
5 6 7 8 9 10 InputX
Production and Costs
ECW2731 Weeks 5 & 6
Return to scale
Output elasticity
Percentage Change in Output (Q) Q / Q Q = = Percentage Change in All Inputs ( X ) X / X
Production and Costs
ECW2731 Weeks 5 & 6
Return to scale
Q > 1 Increasing;
Q = 1
constant;
Q < 1 Decreasing;
Increasing returns Q (Q=10X0.8 Y0.7 ) Constantreturns( =15X0.5 Y0.5 ) TotalproductQ
Decreasing returns (Q=20X 0.4Y 0.2 ) UnitsofInputX, Y
Production and Costs
ECW2731 Weeks 5 & 6
Marginal Revenue product
Marginal revenue product Amount of revenue generated By employing the last input unit
Q TR Q TR MRPX = P = = = MPX MRX X X X Q
In particular, used for the optimisation of factor usage
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Subsitution
The following table of data is given:
Estimated output per day Units of Y used 1 94 130 2 130 188 3 162 234 4 188 272 5 210 305 Units of X used 1 2
162 234 282 324 360 3
188 272 324 376 421 4
210 305 360 421 470 5
A. Do two the inputs exhibit the characteristics of constant, increasing, or decreasing marginal rate of technical substitution?
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Subsitution
A. Do the two inputs exhibit the characteristics of constant, increasing, or decreasing marginal rate of technical substitution?
X is fixed at different levels
500 450 400 350 300 250 200 150 100 50 0 0 2 4 6 Series1 Series2 Series3 Series4 Series5
Estimated output per day Units of Y used 1 94 2 130 3 162 4 188 5 210 Units of X used 1
130 188 234 272 305 2
162 234 282 324 360 3
188 272 324 376 421 4
210 305 360 421 470 5
Diminishing marginal return to factor corresponds to decreasing MRTS
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Subsitution
A. Do the two inputs exhibit the characteristics of constant, increasing, or decreasing marginal rate of technical substitution? Q=188
Estimated output per day Units of Y used 1 94 2 130 3 162 4 188 5 210 Units of X used 1
130 188 234 272 305 2
162 234 282 324 360 3
188 272 324 376 421 4
210 305 360 421 470 5
4.5 4 3.5 3 2.5 2 1.5 1 0.5 0 0 1 2
4 2 1
Q=188
1 2 4
Series1
3
4
5
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Subsitution
B. Assuming the oputput sells for $3 per unit and that X is fixed at 2 units or That y is fixed at 3 units Complete the table
Estimated output per day Units of Y used 1 94 2 130 3 162 4 188 5 210 Units of X used 1
130 188 234 272 305 2
162 234 282 324 360 3
188 272 324 376 421 4
210 305 360 421 470 5
Q APX = X
Q Q2 Q1 MPX = = X X 2 X1
Q MRPX = P X
y is fixed at 3 units
X is fixed at 2 units
Units of Y MRP(Y)= used TP(Y) MP(Y) AP(Y) MP(Y)*$3 1 130 130 130 390 2 188 58 94 174 3 234 46 78 138 4 272 38 68 114 5 305 33 61 99
Units of Y MRP(Y)= used TP(Y) MP(Y) AP(Y) MP(Y)*$3 1 162 162 162 486 2 234 72 117 216 3 282 48 94 144 4 324 42 81 126 5 360 36 72 108
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Substitution
C. Assume that the quantity of x is fixed at 2 units. If output sells for $3 and the cost of Y is $120 per day, how many units per day will be employed? X is fixed at 2 units
Units of Y MRP(Y)= used TP(Y) MP(Y) AP(Y) MP(Y)*$3 1 130 130 130 390 2 188 58 94 174 3 234 46 78 138 4 272 38 68 114 5 305 33 61 99
Q APX = X
Q Q2 Q1 MPX = = X X 2 X1
Q MRPX = P X
Y=3 will be employed. The marginal revenue product of the Y=3 is 138 is greater than the marginal cost per day. At y=4 marginal revenue product is 6 units less than the marginal cost.
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Substitution
D. Assume that the company is currently producing 162 units of output per day using 1 unit of X and 3 units of Y. The daily cost per unit X is $120 and that of Y is also $120. Would you recommend the present input combination. Why or why not?
May be logically solved. We leave until one more concept is introduced.
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Substitution
E. What the nature of return to scale for this production system if the optimal input combination requires X=Y
Estimated output per day Units of Y used 1 94 2 130 3 162 4 188 5 210 Units of X used 1
130 188 234 272 305 2
162 234 282 324 360 3
188 272 324 376 421 4
210 305 360 421 470 5
470/94=5 376/94=4 282/94=3 188/94=2 Constant return to scale
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 2. Production Function concepts
Indicate whether the each following statements is true or false. Explain.
A. Decreasing return to scale increasing average costs are indicated when
Q < 1
True. When Q
<1
, the percentage change in output is less than the a given percentage change in inputs.
B. If the marginal product of capital falls as capital usage grows, the returns to capital are decreasing. True. This follows from the definition of the return to factor. Returns to capital factor are decreasing when the marginal product of capitals falls as capital usage grows
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 2. Production Function concepts
Indicate whether the each following statements is true or false. Explain.
C and D the reflection of definitios only
E. The marginal rate of technical substitution will be affected by a given percentage increase in the marginal productivity of all inputs.
False. The MRTS is measured by the relative marginal productivity of input factors. The proportional change does not affect MRTS.
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 3 Factor Productivity
During recent years, computer aided design (CAD) and computer aided manufacturing (CAM) have become prevalent in many industries. Holding all else equal, indicate, whether each of the following factors would be responsible for increasing or decreasing of this prevalence. A. Rising worker pension costs Increasing. Increases the cost of labour and makes CAD/CAM capital investment more attractive.
B. Technical advances in computer mainframe design. Increasing. Lower the relative cost of CAD/CAM.
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 3 Factor Productivity
During recent years, computer aided design (CAD) and computer aided manufacturing (CAM) have become prevalent in many industries. Holding all else equal, indicate, whether each of the following factors would be responsible for increasing or decreasing of this prevalence. C. An increase of the import share of the market. Decreasing. As imports rise, domestic output falls, holding all else equal. Thus, output demand and MR
Q
would fall as would CAD/CAM usage.
D. Falling prices of industry output. Decreasing. As prices of industry output fall, so does MR
Q
and MRP of CAD/CAM. This would reduce CAD/CAM usage.
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 3 Factor Productivity
During recent years, computer aided design (CAD) and computer aided manufacturing (CAM) have become prevalent in many industries. Holding all else equal, indicate, whether each of the following factors would be responsible for increasing or decreasing of this prevalence. E. Computer software that is increasingly user-friendly Increasing. The cost of CAD/CAM falls.
Production and Costs
ECW2731 Weeks 5 & 6
Optimal combination of multiple inputs Isocost curves.
All combinations of products that can be purchased for a fixed dollar amount
B = PX X + PY Y B PX Y= X PY PY
Sloping downward curve.
UnitsofY 12 10 8 B1 =$1,000 B2 =$2,000 B3 =$3,000 Figure 7.8
B PY
PX P Y
Shift
6 4
Slope
2 0 2 4 6 UnitsofX
Production and Costs
ECW2731 Weeks 5 & 6
Optimal combination of multiple inputs
Optimal combination corresponds to the point of tangency isoquant and isocost.
Unitsof Y B3 B2 B1 Expansionpath A B C Q1 Unitsof X Q3 Q2
PX MPX = P MP Y Y
MP MPX Y = P PX Y
Y3 Y2 Y1
X1 X2 X3
Production and Costs
ECW2731 Weeks 5 & 6
Solutions
Problem 1 Marginal Rate of Technical Substitution
D. Assume that the company is currently producing 162 units of output per day using 1 unit of X and 3 units of Y. The daily cost per unit X is $120 and that of Y is also $120. Would you recommend the present input combination. Why or why not? y is fixed at 3 units
Units of Y MRP(Y)= used TP(Y) MP(Y) AP(Y) MP(Y)*$3 1 162 162 162 486 2 234 72 117 216 3 282 48 94 144 4 324 42 81 126 5 360 36 72 108
Q Q2 Q1 MPX = = X X 2 X1 Q MRPX = P X
MP MPX Y = P PX Y
A change would be recommended, since the firm could produce 188 units at the same cost using two units of each input: that is, the marginal product to price ratios of the two inputs are not equal at the current input proportion. Relatively less Y and more X is needed to provide an optimal combination.
Production and Costs
ECW2731 Weeks 5 & 6
Costs analysis
Accounting and Economic Valuations
Accounting actual Economic - alternative
Production and Costs
ECW2731 Weeks 5 & 6
Costs analysis
Historical vs Current Costs
Historical for accounting purposes Current based on prevailing market conditions for decision making Replacement what is required to renew the productive capacity at the existing technology for efficiency evaluation
Production and Costs
ECW2731 Weeks 5 & 6
Costs analysis
Opportunity cost
The second best alternative forgone to allow th current use.
Production and Costs
ECW2731 Weeks 5 & 6
Costs analysis
Explicit and implicit cost
Explicit out-of-pocket
Wages Utilities Materials Interest Rent
Implicit
Forgone earning if not explicitly spent for the chosen alternative
Production and Costs
ECW2731 Weeks 5 & 6
Costs analysis
Incremental and Sunk Costs
Incremental costs - towards increase in output/productive capacity implied by a particular managerial decision Sunk costs does not vary across decion alternatives
Arise from past irreversible decisions Irrelevant to current and future decisions
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Short and long run in managerial economics
Short run operating decision are made
At least one input is fixed
Long run planning decision are made
Complete flexibility of inputs No fixed costs
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Short run costs
TC=TFC+TVC AFC=TFC/Q AVC=TVC/Q ATC/TC/Q MC= TC/ Q= TVC/Q
$pertimeperiod MC ATC AVC
Q QQ 1 2 3 Outputpertimeperiod(units) )Unitcosts (b
AFC
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Short run costs
$pertimeperiod
Total cost
Increasing returns
Decreasing returns
Outputpertimeperiod(units)
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Short run costs
Outputper timeperiod(units)
Totalproduct Decreasing returns
Increasing returns
Inputpertimeperiod(units)
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Long run costs
$perunit ofoutput SRACA SRACB M SRACC SRACD
Q1
Q2 Q* Q3 Outputpertimeperiod(units)
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Long run costs
$perunit ofoutput
Longrun averagecost
Minimum LRAC Leastcostplant Q* Outputpertimeperiod(units)
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Long run costs, return to scale nd the optimal size of plant and firm
Q*thesizeofplant QFThesizeoffirm
Costperunit
Costperunit
Costperunit
Longrun averagecost
Longrun averagecost
Longrun averagecost
Q *=QF* Output
Q* Output
QF *
Q*
QF * Output
(a) Constantcosts (b) Decliningcosts (c) Ushapedcostcurve Constantreturntoscale IncreasingreturntoscaleDecreasingreturntoscale
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Long run costs, return to scale nd the optimal size of plant and firm
$perunit 625 ofoutput 500 375 250 125 0 5,000 10,000 15,000 Unitsofoutput AC SinglePlant MCMultiplant MR MC SinglePlant
20,000
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
Cost output profit analysis
240 210 180 150 120 90 60 30 0 Loss Fixed cost 10 20 30 40 50 60 70 80 Unitsproducedandsoldpertimeperiod(000)
ot T e R al ue n Profit ve
t os C
$pertime period (000)
Net profit
l ota T
Variable cost Breakevenpoint Fixedcost
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
FirmA Incomeand costs 240 200 160 Breakeven 120 point 80 40 0
l ta To
ue n ve Re
Sellingprice=$2.00 Fixedcost=$20,000 Variablecost=$1.50 Units sold(Q ) 20,000 40,000 60,000 80,000 100,000 120,000
Q
T
l ota
t os C
Fixedcost 20 40 60 80 100 120 Units(Q)
Sales Cost Profit $40,000 $50,000 $10,000 80,000 80,000 0 120,000 110,000 10,000 160,000 140,000 20,000 200,000 170,000 30,000 240,000 200,000 40,000
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
FirmB Incomeand costs 240 200 160
l ta To
ue n ve Re
Sellingprice=$2.00 Fixedcost=$40,000 Variablecost=$1.20 Units sold(Q ) 20,000 40,000 60,000 80,000 100,000 120,000
Q
t Breakeven os C 120 point tal To 80 Fixedcost 40
Sales Cost Profit $40,000 $64,000 $24,000 80,000 88,000 8,000 120,000 112,000 8,000 160,000 136,000 24,000 200,000 160,000 40,000 240,000 184,000 56,000
0
20 40 60 80 100 120 Units(Q)
Production and Costs
ECW2731 Weeks 5 & 6
Short run and long run costs
FirmC Incomeand costs 240 200 160 120 80 40 0 20 40 60 80 100 120 Units(Q )
l ta R ev
Sellingprice=$2.00 Fixedcost=$60,000 Variablecost=$1.00
ue en
Q
st Breakeven To Co l point ota T
Fixedcost
Units sold(Q) 20,000 40,000 60,000 80,000 100,000 120,000
Sales Cost $40,000 $80,000 80,000 100,000 120,000 120,000 160,000 140,000 200,000 160,000 240,000 180,000
Profit $40,000 20,000 0 20,000 40,000 60,000