COST

-Economic concept of cost

-Production and cost
-Short run cost function
-Long run cost function
 Minimum efficient scale
Is the lowest point where the plant (or firm) can
produce such that its long run AC are
minimized.
AC=MC
MARGINAL COST
never affected by FC
Managerial decisions based on MC
(mostly for perfect competition)
CONDIT-S;A local microbrewery has total costs of
production given by the equation
TC=500+10q+5q2.
TASK: Write the equations showing the brewery's
average total cost, marginal cost and average
variable cost and average fixed cost, each as a
function of q. Show the firm's MC, ATC and AVC
on one graph.
1 ATC = TC/q =
2 AVC = VC/q =
3 AFC = FC/q =
4 MC=(TC)’=
 Business Profit=Total Revenue – Explicit Costs;

Implicit Costs=Accounting (Business) Profit –

Economic Profit
Business and Economic Profits
 PROFIT MAXIMISATION
(theoretical assumptions)
1. One manager (owner a firm) takes decision
2. Ceteris parabis abt consumer
3. The firm produces a single, perfectly divisible and
standardised thing.
4. The firm has complete knowledge about the amount of
output which can be sold at each price
5. The firm’s own demand and costs are known exactly
6. New firms can enter the industry only in the long run.
Entry of firms in the short run is not possible
7. Profits are maximised both in the short run and the
long run.
 Profit maximization
MC=MR
Formulae:
• MC=(TC)’
• TR=Q*P (Q – quantity of production, P –
price)
• MR=(TR)’
• PROFIT=TR-TC
 EXAMPLE of PROFIT&SALES
MAXIMIZATION 1.
Company’s revenue is described as
TR=480Q-8Q^2 and costs are
TC=400+8Q^2.
1 Find the quantity and price
maximizing profit.
2 Find profit
 SOLUTION
TR=480Q-8Q^2 and TC=400+8Q^2.

MC=MR
(TC)’=(TR)’
1) 16Q=480-16Q
32Q=480. Q=15

2) P-? TR=P*Q.
TR(15)=480*15-8*(15)^2=7200-1800=5400
5400=P*15, P=360

3) Profit=TR-TC
Profit=(P*Q)-(400+8Q^2)=360*15-(400+8*15^2)=5400-
(400+8*225)=5400-(400+1800)=5400-2200=3200
 EXAMPLE of PROFIT&SALES
MAXIMIZATION 2
Determine the firms profit
maximizing 1)price, 2)quantity
and 3)profit if: quantity of
demand is described Q=60-30P
(P-price) and costs of firm are
TC=10+0.5Q
SOLUTION: Q=60-30P, TC=10+0.5Q
MR=MC
1) MR=(TR)’=(P*Q)’
 Shutdown Point
1) A shutdown point is a level of operations when a company has no
benefit for continuing operations and therefore decides to shut down
temporarily (or in some cases permanently).
2) It results from the combination of production and price where TR
covers only VC.
3) The shutdown point denotes the exact moment when a MR=MC and
Marginal Profit < 0
4) If VC>R, then shutting down is more reasonable than continuing, even
if the company continues to experience losses in other areas, such as
fixed costs.
5) If the reverse occurs, continuing production is more practical.
6) If a company can produce revenues greater or equal to its total variable
costs, it can use the additional revenues to pay down its fixed costs,
assuming fixed costs, such as lease contracts or other lengthy
obligations, will still be incurred when the firm shuts down.
6) When a company can earn a positive contribution margin, it should
remain in operations despite an overall marginal loss.
 NO FIXED COST ANALYSIS!
• The shutdown point does not include an analysis
of fixed costs in its determination. It is based on
determining at what point the marginal costs
associated with operation are bigger than the
revenue being generated by those operations.
• Examples: seasonable businesses shut downs
(garba decorations and dresses out of festive,
Christmas trees in summer, holi powders in
December, wedding clothes in rain season)
 Some examples of risk-bearing theory
based production (multibrand companies)