Economics_Ch07

# Consider one of the many things torres needsa plant

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Unformatted text preview: tory, in which the toy can be produced. She also needs insurance, employees, machines, certain materials for producing the toy (such as plastic and rubber), paper, pens, computers, electricity, and much more. Consider one of the many things Torres needs—a plant. Currently, she rents a plant from Terry Adams. The rental contract specifies that Torres agrees to pay Adams \$2,000 rent each month for 12 months. What if Torres does not want to rent the plant after she has paid only three months’ rent? Must she pay rent for the remaining nine months? Given the contract that Torres and Adams entered into, the answer is yes. In other words, no matter whether Torres produces 1 toy, 1,000 toys, 10,000 toys, or even zero toys in the plant each month, she still has the legal obligation to pay rent of \$2,000 a month for 12 months. 172 Chapter 7 Business Operations Costs, or expenses, that are the same no matter how many units of a good are produced are called fixed costs. The \$2,000 rent is a fixed cost for Torres for a period of 12 months. Bobby pays a business tax of \$1,000 a year no matter how many paper boxes he produces and sells. The business tax is a fixed cost. Taryn pays \$1,500 in insurance for her small store each year, no matter how much she sells. The \$1,500 insurance payment is a fixed cost. EXAMPLE: Now suppose Torres employs 10 workers and pays each \$50 a day. Her labor cost per day is \$500. One day, she gets a special order for many hundreds of toys. To meet the order, she hires five additional workers at \$50 per day. As a result, her weekly labor costs increase by \$250, to a total of \$750. Notice that the increase in labor cost goes along with an increase in the number of toys being produced. Costs, or expenses, that vary, or change, with the number of units of a good produced are called variable costs. If we add fixed costs to variable costs, we have total costs: 07 (154-185) EMC Chap 07 5/8/06 Total costs 4:54 PM Fixed costs Page 173 Variable costs Suppose we want to compute total costs for a month. If fixed costs are \$2,000 for the month and variable costs are \$750, then total costs are \$2,750 for the month. Jimmy pays \$2,000 rent a month on the factory and \$1,800 a month for each of the 20 employees he hired. His fixed costs are \$2,000 a month, and his variable costs are \$36,000 a month. It follows, then, that his total costs are \$38,000 a month. EXAMPLE: Average Total Cost Suppose a teacher gives a test to five students. The grades are as follows: 80, 90, 100, 60, and 75. The total number of points—the sum of the individual grades—is 405. To find the average grade, we divide the total, 405, by the number of students, 5. The average grade on the test is 81. Similarly, to compute the average total cost ( ATC), or per-unit cost, simply divide total cost (TC) by the quantity of output (Q): Average total cost (ATC) TC Q For example, if total cost is \$6,000 and 1,000 units of a good are produced, then average total cost is \$6 per unit (\$6,000/1,000 = \$6). Marginal Cost: An Important...
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## This document was uploaded on 01/16/2014.

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