48 terms

# Lec 3: firms and supply side (ch 9, 10)

#### Terms in this set (...)

Opportunity cost
Cost measured in terms of the next best alternative forgone

When measuring costs of production, we should be careful to use the concept of opportunity cost

In the case of factors not owned by the firm, the opportunity cost is simply the explicit cost of purchasing or hiring them. It is the price paid for them

In the case of factors already owned by the firm, it is the implicit cost of what the factor could have earned for the firm in its next best alternative use
Explicit costs
The payment to outside suppliers of inputs
Implicit costs
Costs which do not involve a direct payment of money to a third party, but which nevertheless involve a sacrifice of some alternatives
Historic costs
The original amount the firm paid for factors it now owns
Sunk cost
Costs that cannot be recouped(重獲) (e.g. by transferring assets to other uses)
Replacement costs
What the firm would have to pay to replace factors it currently owns
Fixed factor
An input that cannot be increased in supply within a given time period

In the long run, a firm is able to vary the quantity it uses of all factors of production. There are no fixed factors.
Variable factor
An input that can be increased in supply within a given time period
Short run
The period of time over which at least one factor (input) is fixed (in supply)

In the short run, a firm will close down if it cannot cover its variable cost
Long run
The period of time long enough for all factors to be varied. There are thus no long-run fixed costs

In the long run, a firm will close down if it cannot make normal profits
Law of diminishing (marginal) returns
When one or more factors are held fixed, there will come a point beyond which the extra output from additional units of the variable factor will diminish

Production in the short run is subject to diminishing returns. As greater quantities of the variable factor(s) are used, so each additional unit of the variable factor will add less to output than previous units: total physical product will rise less and less rapidly
Total physical product (TPP)
The total output of a product per period of time that is obtained from a given amount of inputs
Production function
The mathematical relationship between the output of a good and the inputs used to produce it. It shows how output will be affected by changes in the quantity of one or more of the inputs
Average physical product (APP)
Total output (TPP) per unit of the variable factor in question: APP = TPP / Qv
Marginal physical product (MPP)
The extra output gained by the employment of one more unit of the variable factor: MPP = △TPP / △Qv
Fixed costs
Total costs that do not vary with the amount of output produced
Variable costs
Total costs that do vary with the amount of output produced

Total variable cost tends to increase less rapidly at first as more is produced, but then, when diminishing returns set in, it will increase more and more rapidly
Total cost (TC)
The sum of total fixed costs (TFC) and total variable cost (TVC): TC = TFC + TVC
Average (total) cost (AC)
Total cost (fixed plus variable) per unit of output: AC = TC / Q = AFC + AVC
Average fixed cost (AFC)
Total fixed cost per unit of output: AFC = TFC / Q

AFC will decline as more output is produced because total fixed cost is being spread over a greater and greater number of units of output
Average variable cost (AVC)
Total variable cost per unit of output: AVC = TVC / Q

AVC tends to decline at first, but once the marginal cost has risen above it, it must then rise
Marginal cost (MC)
The cost of producing one more unit of output: MC = △TC / △Q

Marginal cost is the cost of producing one more unit of output. It will probably fall at first (corresponding to the part of the TVC curve where the slope is getting shallower(淺的)), but will start to rise as soon as diminishing returns set in
Economies of scale
When increasing the scale of production leads to a lower cost per unit of output

This can be due to a number of factors, some of which are directly caused by increasing (physical) returns to scale. These include the benefits of specialisation and division of labour, the use of larger and more efficient machines, and the ability to have a more integrated system of production. Other economies of scale arise from the financial and administrative benefits of large-scale organisations having a range of products (economies of scope)
Specialisation and division of labour
Where production is broken down into a number of simpler, more specialised tasks, thus allowing workers to acquire a high degree of efficiency
Indivisibilities(不可分性)
The impossibility of dividing a factor into a smaller units
Plant economies of scale
Economies of scale that arise because of the large size of the factory
Rationalisation
The reorganisation of production (often after a merger) so as to cut out waste and duplication and generally to reduce costs
Costs arising from the general running of an organisation, and only indirectly related to the level of output
Economies of scope
When increasing the range of products produced by a firm reduces the cost of producing each one
Diseconomies of scale
Where costs per unit of output increase as the scale of production increases
External economies of scale
Where a firm's cost per unit of output decrease as the size of the whole industry grows
Industry's infrastructure
The network of supply agents, communications, skills, training facilities, distribution channels, specialised financial services, etc, that support a particular industry
External diseconomies of scale
Where a firm's costs per unit of output increase as the size of the whole industry increases
Technical or productive efficiency
The least-cost combination of factors for a given output
Long-run average cost (LRAC) curve
A curve shows how average cost varies with output on the assumption that all factors are variable. (It is assumed that the least-cost method of production will be chosen for each output).
Envelope curve
A long-run average cost curve drawn as the tangency(接觸) points of a series of short-run average cost curves
Very short run
All factors are fixed
Very long run
Not only the quantity of factors but also their quantity is variable
Total revenue (TR)
A firm's total earnings from a specified level of sales within a specified period: TR = P * Q
Average revenue (AR)
Total revenue per unit of output. When all output is sold at the same price, average revenue will be the same as price: AR = TR / Q = P
Marginal revenue (MR)
The extra revenue gained by selling one or more unit per time period: MR = △TR / △Q

When demand is price elastic, marginal revenue will be positive and the TR curve will be upward sloping. When the demand is price inelastic, marginal revenue will be negative and the TR curve will be downward sloping.
Price taker
A firm that is too small to be able to influence the market price

The demand curve and hence the AR curve will be a horizontal straight line and will also be the same as the MR curve. The TR (total revenue) curve is an upward-sloping straight line from the origin
Profit-maximising rule
Profit is maximised where marginal revenue equals marginal cost
Normal profit
The opportunity cost of being in business. It consists of the interest that could be earned on a risk-less asset, plus a return for risk-taking in this particular industry. It is counted as a cost of production

The minimum profit that must be made to persuade a firm to stay in business in the long run. It is counted as part of the firm's cost.
Supernormal profit (pure profit, economic profit, abnormal profit, profit)
The excess of total profit above normal profit
Short-run shut-down point
This is where the AR curve is tangential(切線的) to the AVC curve. The firm can only just to cover its variable costs. Any fall in revenue below this level will cause a profit-maximising firm to shut down immediately
Long-run shut-down point
This is where the AR curve is tangential to LRAC curve. The firm can just make normal profits. Any fall in revenue below this level will cause a profit-maximising firm to shut down once all costs have become variable.
Loss-minimising output
The point where MR = MC for a firm that cannot make a profit at any level of output