Chapter 13 - CHAPTER 13 THE COSTS OF PRODUCTION Before...

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Unformatted text preview: CHAPTER 13: THE COSTS OF PRODUCTION Before start this topic: - Very technical- Be aware of definitions, formula and graphs. Don’t miss any of them. 1. Objective of firm Consumer: Utility max Firm: profit max Profit = Total Revenue (TR) – Total Cost (TC) DEF : TOTAL REVENUE: The amount a firm receives for the sale of its output (P*Q) [The money firms receive from selling goods] DEF : TOTAL COST: The market value of inputs a firm uses in production [The sum of the costs a firm pays to buy the inputs (L, K)] DEF : PROFIT: Total revenue – total costs (TR-TC) 2. Explicit and Implicit Costs (1) Composition of Total costs DEF : EXPLICIT COSTS: Input costs that require an outlay of money by the firm. EX: paying wages to workers DEF : IMPLICIT COSTS: Input costs that do not require an outlay of money by the firm. EX: the opportunity cost of the owner’s time T.C. = Explicit costs + implicit costs (2) Difference between accountants and economists- Economists include implicit and explicit costs when analyze firm’s costs because want to know how make decisions. - Accountants only include the explicit costs and ignore implicit costs. (Will ignore Mary’s forgone $350/hr). (3) Example You need $100,000 to start your business Case 1: borrow $100,000 Explicit costs = $100,000 * 0.05 = $5000 interest on loan TC =$5000 Case 2: Use $ 40,000 of your savings and borrow the other $60,000 Explicit costs = $60,000 * 0.05 = $3,000 interest on the loan Implicit costs = $40,000 * 0.05 = $2,000 foregone interest you could have earned on your $40,000 1 (Accountants will ignore this implicit cost, since it doesn’t show up on the books) TC = 3000 +2000 = $5000 3. Economic and accounting profit (1) Concepts DEF : : ECONOMIC PROFIT: TR-TC, including both explicit and implicit costs DEF : ACCOUNTING PROFIT: TR-Total Explicit Costs If implicit costs>0 then accounting profit will always be greater than economic profit. If implicit costs>0 then accounting profit will always be greater than economic profit....
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Chapter 13 - CHAPTER 13 THE COSTS OF PRODUCTION Before...

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