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Lecture%207 - Econ 208 lecture 7 page 1 Lecture 7: Cost and...

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Econ 208 lecture 7 page 1 Lecture 7: Cost and Output and Choice of Technique Review of Monday On Monday we discussed the relation between the production function and the cost function. I want to review that relation, as it is one of the fundamental relations of microeconomics. Production function: The production function specifies the maximum output that can be produced from a given amount of inputs. If we hold all inputs but one fixed and vary the last, we obtain relation that specifies output as a function of that input (given the others). [graph here, using labour as variable input; note that if we vary the other inputs, the graph of total output goes up or down. Marginal product We define the marginal product of an input as the change in output with respect to a change in that input, holding all other inputs fixed. Law of Diminishing Return Holding all but one input constant, the law of diminishing returns states that the marginal product of the variable input falls as more of it is employed in production. Cost Funcxtions The cost function specifies the cost of production for different levels of output. This can be expressed in different ways.
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Econ 208 lecture 7 page 2 Total Cost : this is the total cost (outlays) associated with any given level of output. The total cost function specifies the minimum cost of producing a given level of output. In this sense it is the counterpart (in economic theory it is called the ‘dual’) to the production function, which specifies the maximum level of output for a given amount of input. In the case of the cost function, the relation is the minimum input needed to secure a given level of output. Since the individual inputs are hired at fixed rates, this translates into minimum cost. We will examine this relation later. We can also speak of average cost , which is total cost divided by total output. This is an important measure, which we will examine later in a different context. Marginal cost : This is important for determining the level of output. The marginal cost is the change in total cost with respect to a change in the level of output. Marginal cost is variable cost . The cost function consists of two comoponwents: Fixed cost , which is that cost which is independent of the level of output, and so does not vary as output varies, and variable cost , which varies with output. As I noted on Monday, the fixity of the fixed cost is sensitive to context. We
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This note was uploaded on 12/10/2010 for the course BIOL 205 taught by Professor Kramer during the Winter '08 term at McGill.

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Lecture%207 - Econ 208 lecture 7 page 1 Lecture 7: Cost and...

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