SUBJECT NAME Economics for Business

SEMESTER Semester 3 2012

SUBJECT CODE BECO001

SUBJECT COORDINATOR Greg Cunningham

TUTORIAL # 4

TITLE COSTS OF PRODUCTION &

PRODUCTION DECISIONS #1

PRE TUTORIAL READING Before attending this tutorial it is expected that you will have:

1. Attended the Lecture

Costs of Production &
Production Decisions – Perfect Competition
2. Read the appropriate sections of the prescribed text book
3. Read through the questions in this workbook and are prepared
to discuss these in your tutorial

YOU SHOULD ALSO BRING THE TUTORIAL PORTFOLIO

ASSIGNMENT AND YOUR SELECTED ARTICLE TO THIS TUTORIAL

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Costs of Production
Tutorial Questions

1. A production function is a relationship between quantity of output and:

a) Costs
b) Revenue
c) Inputs
d) Profit

2. The marginal product of labour is equal to:

a) Increase in labour required to generate a one-unit increase in output
b) Increase in output obtained from a one-unit increase in labour
c) Increase in profit generated with a one-unit increase in labour
d) Increase in costs associated with a one-unit increase in labour

3. Diminishing marginal product suggests that:

a) Additional units of output become less costly as more is produced
b) Marginal cost is upward sloping
c) The firm is at full capacity
d) All of the above

4. In the space below sketch the Total Product Curve

What does this curve show us?

Total Output

Inputs (Labour)
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5. Outline some of the reasons why we could expect to see diminishing marginal returns
when we introduce more units of labour. Answer using a specific example of a
production process eg bakery.

6. Explicit costs:
a) Require an outlay of money by the firm
b) Include all of the firm’s opportunity costs
c) Include income forgone by a firm’s owners
d) All of the above

7. An example of an implicit cost of production would be:

a) Cost of raw materials for a bakery
b) Cost of a delivery truck that is rarely used by the business
c) Lost opportunity to invest funds that owners have put into the business
d) None of the above

8. Economic profit is equal to:

a) Total revenue minus explicit costs of production
b) Total revenue minus opportunity costs of production
c) Total revenue minus accounting costs of production
d) Average revenue minus average costs of production

9. Accounting profit:
a) Will never exceed economic profit
b) Is a better measure of profit than economic profit
c) Is usually equal to economic profit
d) Is always at least as large as economic profit

10. The amount by which total cost rises when the firm produces on additional unit of
output is called
a) Average cost
b) Marginal cost
c) Fixed cost
d) Variable cost

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11. Joe wants to start his own business. The business will require that he purchase a
factory that costs $300,000. To finance the purchase of this factory he will use $100,000
of his own money on which he has been earning 10% interest. In addition, he will borrow
$200,000 and will pay 12% interest on this loan.

Using this information answer the following two (2) questions.

For the first year of production, what is the explicit cost of purchasing the factory?
a) $12,000
b) $20,000
c) $24,000
d) $44,000

For the first year of production, what is the opportunity cost of purchasing the
factory?
a) $10,000
b) $20,000
c) $24,000
d) $34,000

12. Jane wants to start a small coffee cart business. Variable costs for Jane’s coffee cart
would include:
a) The cost of the coffee
b) The cost of the coffee cart
c) The cost of designing her new logo and advertising posters
d) The cost of producing advertising flyers to distribute in nearby office buildings

13. If a firm produces nothing, which of the following costs would be zero?
a) Total cost
b) Fixed cost
c) Opportunity cost
d) Variable cost

14. One assumption that distinguishes short-run cost analysis from long-run cost
analysis for a profit-maximising firm is that in the short run
a) Output is not variable
b) The number of workers used to produce the firms product is fixed
c) The size of the factory is fixed
d) There are no fixed costs

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Fred’s Building Inspections is a small company that subcontracts to a larger company to
produce building reports for house purchases. The owner rents a small office for $600
per month and leases computer equipment at a cost of $480 per month. Other costs are
shown in the table below. Complete the following cost table:

Output Fixed Variable Total Average Average Average Marginal

Cost Cost Cost Fixed Variable Total Cost
Cost Cost Cost
Q TFC TVC TC AFC AVC ATC MC

0 1,080 -- -- -- --
1 1,080 400 1,480 400
2 965 450
3 1,350 2,430
4 1,900 475
5 2,500 216
6 4,280 700
7 4,100
8 5,400 135
9 7,300
10 10,880 980
How does the data you have calculated in the table above compare to the
shapes of the various cost curves highlighted in the lecture?

Using the information from the table you have just completed above answer
the following five (5) questions.

15. What is the marginal cost of creating the tenth report?

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 a) $900
b) $1,250
c) $2,500
d) $3,060

16. What is the average variable cost if six reports are produced?
a) $18
b) $533.33
c) $700
d) $713.33

17. What is the average fixed cost if nine reports are produced?
a) $108
b) $120
c) $150
d) $811.11

18. How many reports are produced when the marginal cost is
$1,300?
a) 4
b) 5
c) 7
d) 8

19. If Fred produced 18 reports what would the average fixed cost
be?
a) $60
b) $108
c) $811
d) It cannot be determined from the information given

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Production Decisions in Perfect Competition
Tutorial Questions

1. Using the graphs below show how the market equilibrium can be used to
generate the demand curve of an individual firm in a perfectly competitive market

MARKET FIRM

Use the information in the following table to answer questions 2 to 5

Quantity Price
1 $13
2 $13
3 $13
4 $13
5 $13
6 $13
7 $13
8 $13
9 $13

2. The price and quantity relationship displayed in the table above is most likely that
faced by a firm in:
a) Monopoly
b) Monopolistic Competition
c) Perfect Competition
d) Oligopoly

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3. Over which production range is average revenue equal to price?
a) 1 to 5
b) 3 to 7
c) 5 to 9
d) The entire production range

4. Over which production range is marginal revenue declining?

a) 1 to 6
b) 3 to 7
c) 7 to 9
d) None – marginal revenue is constant over the entire production range

5. If a firm doubles its output from (3) to (6) units then total revenue (TR) will:
a) Increase by less than $39
b) Increase by exactly $39
c) Increase by more than $39
d) Remain unchanged

6. In perfect competition what is the relationship between the market price (P),
average revenue (AR) and marginal revenue (MR)?

7. As goods in perfect competition are homogenous (identical):

a) There will be few sellers in the market
b) There will be few buyers in the market
c) There is no reason for sellers to charge less than the market price
d) Sellers can easily charge a price higher than the market price

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8. Total profit for a firm is calculated as:
a) Total Revenue (TR) minus Total cost (TC)
b) Marginal Revenue (MR) minus Average Cost (AC)
c) Average Revenue (AR) minus Average Costs (AC)
d) Marginal Revenue (MR) minus Marginal Cost (MC)

9. When price (P) is greater than marginal cost (MC) for a firm in a competitive
market:
a) There are opportunities to increase profit by increasing production
b) The firm should decrease output to maximise profit
c) Marginal cost must be falling
d) The firm must be minimising its losses

10. The long run profit outcome for firms in perfect competition is:
a) Normal profit
b) Economic loss
c) Economic profit
d) Supernormal profit

11. On the graph below show the short run position where firms are generating
“Normal Profit”. What is the relationship between price (P) and average total
cost (ATC)?

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12. On the graph below show the short run position where firms are generating
“Economic Profit”. What is the relationship between price (P) and average total
cost (ATC)?

13. On the graph below show the short run position where firms are generating
“Economic Losses”. What is the relationship between price (P) and average
total cost (ATC)?

14. When firms are in a competitive market are making economic profit, this provides
an incentive for:
a) Existing firms to increase production
b) New firms seek government assistance to enter the market
c) Existing firms to increase prices
d) New firms to enter the market

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