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ARE100A INTERMEDIATE MICROECONOMICS: THEORY OF PRODUCTION AND CONSUMPTION FALL QUARTER 2009 Study Guide: Production, cost and supply Production relationships underlie cost functions and cost functions determine supply and competitive market analysis. So the material in this review are a unified whole. Production: Output is a function of inputs. (This relationship is not just ordinal the numbers matter.) In the long run all inputs are variable and chosen by the firm, in the short run only a single input may be variable and the others fixed. The more time to plan for and make adjustments the more inputs are variable. Marginal Product (MP) of an input say labor is ∂q/∂L, how much does output change with labor holding other inputs fixed. Average product (AP) is just q/L. Graphically AP must rise when MP>AP and AP =MP at the max of AP. MP = 0 at the max of output. Law of Diminishing Marginal Returns: holding some inputs fixed the MP of the variable input must be declining, at least after some point. When there are two (or more) variable inputs the substitution relationship between them may summarized by the isoquants which the potential combinations of inputs that can produced the same output. The more bowed inward the (downward sloping) isoquants the less inputs are substitutes, the flatter the more they are close substitutes.

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