__ Stock11.Debts or financial obligations owed to other firms or persons. __ Flow12.Total assets minus total liabilities.
IV. SUMMARY AND CHAPTER OUTLINE
This section summarizes the key concepts from the chapter.
A. Economic Analysis of Costs
1.Total costs include all costs incurred when a firm produces and sells a product; this chapter concentrates onshort-run cost functions so there are two possible categories of costs. Variable costs are those costs whose totalamount varies with the quantity of inputs used and output produced. Fixed costs are those costs that must be paid by the firm even if its output is zero. Note that in the long run, all costs are variable, since all inputs arevariable.2.Marginal costs measure the increase in total cost resulting from a l-unit increase in output. Like marginal product (from Chapter 6), marginal costs focus on the effect of incremental changes.3.Average costs measure the per unit costs of production at any given level of output. You can find averagevariable cost, average fixed cost, or average total cost; all these concepts share the common characteristic of being per unit measures.4.The law of diminishing returns, which you learned in Chapter 6, also speaks to the nature of a firm’s costs.As the firm increases production, additional variable inputs are added to a fixed capital base; as marginal product begins to fall, marginal costs will begin to rise. Cost curves are U-shaped when short-run returnsincrease in the early range of production but eventually start to rise as output increases and more of the variableinputs are employed.5.Profit-maximizing firms will attempt to choose the combination of inputs that allows them to produce withminimum costs. This combination will be such that the marginal productivity of the last dollar spent on eachinput is equal for all inputs used in the production process.
B. Economic Costs and Business Accounting
1.The balance sheet is a stock concept, or a snapshot of a firm’s financial health—it reflects the economiccondition of an economic enterprise at some prescribed point in time. The balance sheet begins by listing thefirm’s assets; that is, everything it owns, including cash, buildings, equipment, inventory, and so on.2.The income statement is a flow concept, or a motion picture—it reflects growth or problems over a given period of time. Its primary function is to record how much profit (or loss) the company earned from its salesduring some particular period.3.Depreciation is a way of measuring the annual cost of a capital input that the company owns. Although thefirm does not have to write a check to itself when its own capital equipment is used, it must recognize thatequipment wears out as it is used in the production process. Capital equipment will eventually have to bereplaced, and prudent managers do indeed make allowances for this in their budgets.4.The firm’s “worth” is not likely to be the same figure as the total monetary value of its assets. Any debtsowed to others—the firm’s liabilities—must be deducted to get an accurate portrait of financial health. Theresulting figure is net worth, the difference between the total value of assets and the total value of liabilities.
C. Opportunity Costs
1.Opportunity costs measure the value of a resource at its next-best alternative use. As long as a resource isat least as useful as it would be in its next-best alternative use, economists can be sure that no reallocationwould improve the overall efficiency of the firm (or even the economy).2.If markets are functioning properly the price of the last unit of output sold is just equal to its opportunitycost. This means that the amount that a buyer is willing and able to pay is exactly equal to the value of the itemat its next-best alternative use; there is no more productive use for the resources used to make that marginal unitof output.
V. HELPFUL HINTS
1.Marginal product and marginal costs both measure the effect of incremental changes. However, they differ in an important way. Marginal product measures the addition to total product, or output, when an additionalunit of an input is hired. By contrast, marginal cost measures the addition to total cost when an additional unitof output is produced. Remember, “margin” means change.2.Note that marginal cost, even though it is a per unit cost measure, is not the same thing at all as averagecost. To illustrate the difference, consider some baseball or softball statistics. A batter has a batting average