Chapter 8
Cost Curves
Solutions to Review Questions
1.
The longrun total cost curve plots the minimized total cost for each level of
output holding input prices fixed.
In other words, for a given set of input prices,
the longrun total cost curve represents the total cost associated with the solution
to the longrun cost minimization problem for each level of output.
2.
When the price of one input increases, the isocost line for a particular level of
total cost will rotate in toward the origin.
Assuming the isocost line was tangent
to the isoquant for the firm’s selected level of output, when the isocost line rotates
it will no longer touch the original isoquant.
In order for an isocost line to reach a
tangency with the original isoquant, the firm would need to move to an isocost
line associated with a higher level of cost,
i.e.
an isocost line further to the
northeast.
3.
If the price of a single input goes up leaving all other input prices the same and
the level of output constant, total cost will rise but by a smaller percentage than
the increase in the input price.
This occurs because the firm will substitute away
from the now relatively more expensive labor to the now relatively less expensive
other inputs.
So, if the price of labor rises by 20% holding all other input prices
constant, total cost will rise by less than 20%.
If the prices of all inputs go up by the same percentage, total cost will rise by
exactly that same percentage.
So, if input prices rise by 20%, total cost will also
rise by 20%.
4.
An increase in the price of labor would result in a longrun total cost curve that
lies above the initial longrun total cost curve at every quantity except
0
Q
=
.
Since
/
AC
TC Q
=
, increasing total cost will raise average cost at every quantity
except
0
Q
=
.
Therefore, the longrun average cost curve will shift up.
5.
a)
When
MC
AC
, average cost is increasing, and when
MC
AC
<
,
average cost is decreasing.
So, if the average cost curve is increasing it
must lie
below
the marginal cost curve.
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b)
If the marginal cost curve is increasing, it may lie above or below the
average cost curve.
The only determining factor here is whether or not
marginal cost lies above or below average cost.
If it lies above, average
cost will be increasing and if it lies below, average cost will be decreasing.
Knowing that marginal cost is increasing or decreasing tells us nothing
about average cost.
6.
AC
MC
TC
Q
When average cost is falling, marginal cost will lie below average cost, and when
average cost is increasing, marginal cost will lie above average cost.
Over the
flatbottomed portion where average cost is neither increasing nor decreasing,
marginal cost and average cost will be equal.
7.
The output elasticity of total cost, when simplified can be written as
,
TC Q
MC
AC
ε
=
Since
/
AC
TC Q
=
, and since
TC
and
Q
must always be positive,
AC
will
always be positive.
Marginal cost,
MC
, represents the change in total cost
associated with an increase in output.
When output increases, total cost must
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 Fall '07
 EVANS,T.
 Economics of production, Average cost

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