Costs of ProductionCosts of Production

Short-runShort-run

Production in the Short RunProduction in the Short Run

1. In the short run some inputs are fixed (e.g. capital) other inputs are variable (e.g. labour)

2. Inputs are combined to make a

business’s total product average product is total product divided by the

number of workers marginal product is the extra total product from

employing an additional worker

Relating Average and Marginal Relating Average and Marginal ValuesValues

3. Average and marginal values are related using three rules if an average value rises then the marginal

value must be above the average value if an average value falls then the marginal

value must be below the average value if an average value stays constant then the

marginal value must equal the average value

Total, Marginal, and Average ProductTotal, Marginal, and Average Product

In this example, the total product curve is hill-shaped, with its peak at 5 workers and its slope dependent on the behaviour of marginal product.

The range of increasing returns, where marginal product rises, applies during the hiring of the first 2 workers.

In the range of positive diminishing returns, during the hiring of the third, fourth, and fifth workers, marginal product falls and is positive.

In the last range of negative diminishing returns, from the sixth worker onward, marginal product falls and is negative. The shape of the average product curve can be linked to marginal product, since average product reaches a maximum where it crosses the marginal product curve at 2 workers.

Costs in the Short RunCosts in the Short Run

4. Short-run costs include fixed costs (costs of all fixed inputs) variable costs (costs of all variable inputs) total cost (fixed costs + variable costs)

Marginal CostMarginal Cost

5. Marginal cost is the extra cost of

producing an extra unit of output it equals the change in total cost divided

by the change in total product

Per-Unit CostsPer-Unit Costs

6. Per-unit costs include average fixed cost (fixed costs divided by

total product) average variable cost (variable costs divided

by total product) average cost

either total cost divided by total productor average fixed cost + average variable

cost

Summary of Short-Run Cost CurvesSummary of Short-Run Cost Curves

When a business’s output of a certain product rises, the average fixed cost curve (AFC) falls. The average variable cost curve (AVC) declines until it reaches point “a”, where it meets the marginal cost curve (MC), after which the AVC curve rises. The average cost curve (AC) also falls, and then rises. It reaches a minimum at point “b” where it meets the MC curve.