chapter_7

chapter_7 - Measuring Cost: Which Costs Matter? Economic...

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Chapter 7 Slide 1 Measuring Cost: Which Costs Matter? Accounting Cost : Actual expenses plus depreciation charges for capital equipment Economic Cost: Cost to a firm of utilizing economic resources in production, including opportunity cost Economic Cost vs. Accounting Cost
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Chapter 7 Slide 2 Opportunity cost: Cost associated with opportunities that are foregone when a firm’s resources are not put to their highest-value use. E.g.: A firm owns its own building and pays no rent for office space. Does this mean the cost of office space is zero? Measuring Cost: Which Costs Matter?
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Chapter 7 Slide 3 Sunk Cost : Expenditure that has been made and cannot be recovered - should not influence a firm’s decisions. E.g.: A firm pays $500,000 for an option to buy a building. The cost of the building is $5 million or a total of $5.5 million. The firm finds another building for $5.25 million. Which building should the firm buy? Measuring Cost: Which Costs Matter?
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Chapter 7 Slide 4 Total output is a function of variable inputs and fixed inputs. Therefore, the total cost of production equals the fixed cost plus the variable cost VC FC TC + = Measuring Cost: Which Costs Matter? Fixed and Variable Costs
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Chapter 7 Slide 5 Cost in the Short Run Marginal Cost ( MC ) is the cost of expanding output by one unit. Since fixed cost has no impact on marginal cost, it can be written as: Q TC Q VC MC = =
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Chapter 7 Slide 6 Cost in the Short Run Average Total Cost (ATC) is the cost per unit of output, or average fixed cost (AFC) plus average variable cost (AVC). This can be written: Q TVC Q TFC Q TC ATC + = =
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Chapter 7 Slide 7 Cost in the Short Run Assume the wage rate (w) is fixed relative to the number of workers hired. Then: Continuing: L VC = w Q VC MC = L VC w = L MP w w = = Q L MC
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A Firm’s Short-Run Costs ($) 0 50 0 50 --- --- --- --- 1 50 50 100 2 50 78 128 3 50 98 148 4 50 112 162 5 50 130 180 6 50 150 200 7 50 175 225 8 50 204 254 9 50 242 292 10 50 300 350 11 50 385 435 Rate of Fixed Variable Total Marginal Average Average Average Output Cost Cost Cost Cost Fixed Variable Total (FC) (VC) (TC) (MC) Cost Cost Cost (AFC) (AVC) (ATC)
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Chapter 7 Slide 9 Cost Curves for a Firm Output Cost ($ per year) 100 200 300 400 0 1 2 3 4 5 6 7 8 9 10 11 12 13
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chapter_7 - Measuring Cost: Which Costs Matter? Economic...

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