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Production Function
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Specifies the maximum output that can be produced with a given quantity of inputs and state of technology.
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Total Product Curve
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If more resources used, more output can be produced, but output increases at a decreasing rate.
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Total Product
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Total amount of output produced in physical units eg cavans of rice, bushels of corn
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Marginal product
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Extra output produced by an extra unit of input used, other inputs held constant
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Average Product
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Total product or total units of output divided by total units of input used.
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Law of Diminishing Returns
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Less and less output is obtained when additional units of an input are used, holding constant all other inputs, eg. the marginal product of each unit of input will decline as the amount of that one input increases, holding constant all other inputs.
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Returns to scale
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measures the percentage change in output resulting from a given percentage change in inputs
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Constant
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A change in all inputs leads to a proportional change in output eg. Doubling all inputs also doubles output
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Increasing or Economies of Scale
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An increase in all inputs leads to a more-than-proportional increase in output
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Decreasing
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An increase in all inputs leads to a less-than-proportional increase in output
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Short run
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A period in which firms can adjust production by changing variable factors of production but cannot change fixed factors of production
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Long run
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A period sufficiently long that all factors including capital can be adjusted
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Supply is more elastic
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in the long run than in the short run for produced goods
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Technological change
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Can distinguish process innovation or improvement in production techniques and product innovation or the introduction of new or improved products, happen in long run
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shifts upward
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Technological change shifts production function _
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Labor Productivity
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Ratio of output produced per each unit of labor input
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Total Factor Productivity
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The average productivity of all factors, measured as the total output divided by the total amount of inputs used
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minimize cost subject to an output constraint; maximize profit subject to a cost constraint
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Firm's problem, facing given resources and prices of factor inputs
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Goods and factor markets
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Operates in 2 markets
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fixed cost + variable cost
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total cost
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Fixed cost or Overhead or Sunk costs
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Costs incurred by firm even if no output is produced eg. Rent for Space, interest payments on debts
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Marginal Cost
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change in total cost / change in quantity; slope of the total cost curve
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Variable cost
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Costs which vary as output changes eg. Materials, workers, power
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Total cost rises
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When more quantity is produced
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Average cost
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the total cost divided by the quantity produced
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Average fixed cost
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fixed cost divided by the quantity of output; continuously downward sloping line spreading overhead
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average variable cost
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variable cost divided by the quantity of output
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Pulled up
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When marginal cost is greater than average cost, average cost is _, the last unit produced costs more than the average cost of all the previous units produced so the new average cost must be greater than the old average cost.
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Pulled down
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When marginal cost is less than average cost, average cost is _, the last unit produced costs less than the average cost of all the previous units produced so that the new average cost must be less than the old average cost.
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Minimum
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When marginal cost is equal to average cost, average cost is _, hence at the bottom of a u-shaped average cost, average cost is constant since the last unit produced costs as much as the average cost of all the previous units produced so the new average cost is the same as the old average cost.
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Short run
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Some costs are fixed like rent of building and machines, some are variable like labor, energy, raw materials
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Long run
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Fixed costs become variable costs like renting decisions can change, can buy/rent new machines and equipment. All costs are variable in the _.
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Perfect competition would break down
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If cost curves did not eventually turn up, they were not u-shaped, think of a firm with a cost curve that declines forever as more output is produced, firm would soon dominate the industry
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Least cost rule formula
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Equilibrium condition, to produce a given output at least cost, a firm should buy inputs until it has equalized the Marginal product per peso of a factor of production with the marginal product per peso of any other factor of production MPL/Price of Labor = MPK/Price of capital
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Isoquant Curve or Equal-Product Curve
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showing all of the various combinations of two inputs that result in the same amount of output.
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Two inputs of factors of production
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Axes of the isoquant
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Convex to the origin
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The shape of an isoquant due to the law of diminishing marginal productivity. This is because as one input is increased while all inputs are held constant, the marginal product of the varying input will start declining at some point.
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Marginal Rate of Technical Substitution
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The slope of an isoquant describes how many units of capital are required to compensate for a unit of labor, while keeping production constant MPx /MPy
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Equal cost line will pivot
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If the price of one factor of production changes so that the ratio of the input price is no longer the same,
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Firm behavior
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Description of how firms allocate resources in their production of outputs in order to maximize their profits.
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monopoly, oligopoly, monopolistic competition, perfect competition
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One firm, few firms, many firms, and many, many firms
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Firm's choice
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What quantity of the good to produce, the price of the good (sometimes)
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Firm's decision
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Depends on cost of production, the degree of competition in the market (if there are more sellers, more competitive)
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Maximize profits
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Main goal of any firm
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Production, cost analysis, choice of production level
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Three components of firm's profit maximization
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Profit
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total revenue - total cost
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Total revenue
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Amount of a firm receives for the sale of its output, for a competitive firm, TR = P x Q
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Total cost
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the market value of the inputs a firm uses in production
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Production function
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the relationship between quantity of inputs (ex. Number of workers) used to make a good and the quantity of output of that good, specifies the maximum output that can be produced given quantity of input, represents technology of the firm
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Total product
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Total output produced given units of input
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Average product
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total product/total units of input
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Marginal product
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Extra output produced given additional unit of an input while other inputs are held constant.
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Law of diminishing marginal product
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Keeping all other inputs fixed, marginal product of some inputs declines as the quantity of that input increases.
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slope of production function
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It measures the marginal product of labor
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Production function becomes flatter
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When the marginal product of labor declines, _
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Returns to scale
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The effect of scale increases of all inputs on the quantity produced
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constant returns to scale
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A change in all inputs lead to a proportional change in output.
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increasing returns to scale
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A change in all inputs leads to a more-than-proportional change in output
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decreasing returns to scale
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A change in all inputs leads to a less-than-proportional change in output.
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Technological change
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Change in the underlying techniques of production, as occurs when new product or process of production is invented or an old product or process is improved., the same output is produced with fewer inputs or more output is produced with the same inputs.
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Isoquant curves
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Indicate all different combination of inputs for a given level of output.
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Convex shaped
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Shape of isoquant curve due to law of diminishing marginal productivity
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Isoquant map
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a set of isoquant curves that shows technically efficient combinations of inputs that can produce different levels of output
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Marginal rate of technical substitution
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Slope of an isoquant, the rate at which one factor must be added to compensate for the loss of another factor, to keep output constant.
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MRTS = MPL /MPK
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Formula of MRTS when labor is on the x-axis or horizontal axis and capital is on the y-axis or vertical axis
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Fixed costs
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Costs that do not change with the quantity of output produced. Ex. Rent, accountant's wage, some taxes such as property taxes
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Variable costs
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Costs that change with the quantity of output produced. Ex. Labor, electricity, transportation
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Average cost
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Answers the question, how much does it cost to produce one unit of a good on average?
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Marginal cost
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the additional cost of producing the last unit, how much does it cost to produce an additional unit of output
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change in total cost / change in quantity
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marginal cost formula
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Marginal cost initially falls
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Initial stage of increasing returns
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Marginal cost increases as output rises
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Due to the law of diminishing marginal productivity
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Average cost is high
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At very low levels of output, _ because fixed cost is spread over only a few units.
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Average cost declines as output increases
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Fixed cost is spread over more units
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Average cost starts rising
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As output increases further, _ because average variable cost rises faster than the decline in average fixed cost
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Minimum point of u-shaped average cost curve
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The quantity where the firm achieves the lowest average cost which is called the efficient scale of the firm.
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Marginal cost eventually rises as the quantity of output increases.
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First important feature of cost curves
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Average curve is u-shaped
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Second important feature of cost curves
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The marginal cost crosses the average cost curve at the minimum point of average cost
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Third important feature of cost curves
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Isocost line or equal cost
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It represents all combinations of factors of production that have the same total cost.
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Ratio of the prices of the factors of production
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Slope of the isocost line
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C = Pl x L + Pa x A
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Equation of an isocost line
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A = C/Pa - Pl / Pa L
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Equation to find the area of land
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Absolute value of slope = - Pl / Pa
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Slope of the isocost line
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Pivot or rotation of the isocost line
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Change in the price of one input
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Optimal or cost-minimizing position of the firm
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Combining the isoquant and isocost curves will determine
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Profit-maximizing
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When firms are cost-minimizing, they are _
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MRTS = MPL/MPA = PL/PA
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Least-cost condition
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MPL/PL = MPA/ PA
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another formula for least-cost condition
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Least-cost condition
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The firm will minimize its total cost of production when marginal productivity per peso of input is equalized for all inputs.
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