The Costs of Production
THE COSTS OF PRODUCTION
Economic costs are the payments a firm must make, or incomes it must provide, to resource
suppliers to attract those resources away from their best alternative production
Payments may be explicit or implicit.
(Recall opportunity-cost concept in
A. Explicit costs are payments to nonowners for resources they supply.
In the text’s example
this would include cost of the T-shirts, clerk’s salary, and utilities, for a total of $63,000.
Implicit costs are the money payments the self-employed resources could have earned in their
best alternative employments.
In the text’s example this would include forgone interest,
forgone rent, forgone wages, and forgone entrepreneurial income, for a total of $33,000.
Normal profits are considered an implicit cost because they are the minimum payments
required to keep the owner’s entrepreneurial abilities self-employed.
This is $5,000 in the
D. Economic or pure profits are total revenue less all costs (explicit and implicit including a
Figure 9-1 illustrates the difference between accounting profits and economic
The economic profits are $24,000 (after $63,000 + $33,000 are subtracted from
The short run is the time period that is too brief for a firm to alter its plant capacity.
plant size is fixed in the short run.
Short-run costs, then, are the wages, raw materials, etc.,
used for production in a fixed plant.
The long run is a time period long enough for a firm to change the quantities of all resources
employed, including the plant size.
Long-run costs are all costs, including the cost of varying
the size of the production plant.
Short-Run Production Relationships
A. Short-run production reflects the law of diminishing returns that states that as successive
units of a variable resource are added to a fixed resource, beyond some point the product
attributable to each additional resource unit will decline.
CONSIDER THIS … Diminishing Returns from Study
Table 9-1 presents a numerical example of the law of diminishing returns.
Total product (TP) is the total quantity, or total output, of a particular good produced.
Marginal product (MP) is the change in total output resulting from each additional input
Average product (AP) is the total product divided by the total number of workers.