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Marginal Cost Remember Marginal Cost The change in total cost generated by producing one more unit of output Easiest to calculate if data on total cost are available in increments of one unit of output ID: 722797

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Slide1

Marginal Cost and Average CostSlide2

Marginal Cost

Remember Marginal Cost?

The change in total cost generated by producing one more unit of output

Easiest to calculate if data on total cost are available in increments of one unit of outputSlide3

Marginal Cost

Selena’s Gourmet Salsa produces bottled salsa

The table above shows the costs per day based on the number of cases of salsaSlide4

Marginal Cost

The significance of the slop of the total cost curve is shown by the fifth column – marginal cost of case

The general formula for marginal cost:Slide5

Marginal Cost

Like marginal product, the marginal cost is equal to “rise” (increase in total cost) divided by “run” (the increase in the quantity of output)

Marginal product is = to the slope of the total product curve

Marginal cost is = to the slope of the total cost curveSlide6

Marginal Cost

The total cost curve slopes upward and gets steeper as we move it to the right

The marginal cost curve also slopes upward , which reflects diminishing returns to the variable inputSlide7

Marginal Cost

Remember, as output increases, the marginal cost of output also increases because the marginal product of the variable input decreasesSlide8

Average Cost

Average total cost is referred to as average cost and it is total cost divided by quantity of output produced

ATC = TC/Q = (Total Cost) / (Quantity of Output)Slide9

Average Cost

Average total cost is in important because it tells the producer how much the average or typical unit of output costs to produce

Marginal cost tells the producer how much one more unit of output costs to produceSlide10

Average Cost

What is the total cost of producing 4 cases of salsa?Slide11

Average Cost

The average total cost curve has a U shape that corresponds to how average total cost first falls and then rises as output increasesSlide12

Average Cost

U-shaped average total cost curve falls at low levels of output then rises at higher levels

Economics believe that the U-shaped average total cost curve are the norm for producers in many industriesSlide13

Average Cost

Why is it U-shaped though?

Depends on average fixed cost and average variable cost

Average fixed cost (AFC) is fixed cost divided by the quantity of output (also known as the fixed cost per unit of output)

AFC

=Fixed cost

=

FC

Quantity

of output

QSlide14

Average Cost

Average fixed cost (AFC) is fixed cost divided by the quantity of output (also known as the fixed cost per unit of output)

Average variable cost (AVC) is variable cost divided by the quantity of output, also known as variable cost per unit of output

AFC

=

Fixed cost

=

FC

Quantity

of output

Q

AVC

=

Variable

cost

=

VC

Quantity

of output

QSlide15

Average Cost

ATC is the sum of average fixed cost and average variable cost, it has a U shape because they move in opposite direction as output rises

The relationship between the two is as more output is produced, the fixed cost is spread over more units of output; the end result is that the fixed cost per unit of output (average fixed cost) fallsSlide16

Average Cost

AVC rises as output increases

Each additional unit of output incurs more variable cost to produce than the previous unit

Increases output

has

two opposing effects on average total costSlide17

Average Cost

“The spreading effect” – the larger the output, the greater the quantity of output over which fixed cost is spread, leading to lower average fixed cost

At low levels of output, the spreading effect is very powerful because even small increases in output cause large reductions in average fixed cost.

At low levels of output, the spreading effect dominates the diminishing returns effect and causes the average total cost curve to slope downward

When output is large, average fixed cost is already small and so increases output further has only a very small spreading effectSlide18

Average Cost

“The diminishing returns effect” – the larger the output, the greater the amount of variable input required to produce additional units, leading to a higher average variable cost

Diminishing returns usually only grow increasingly important as output rises

When output is large, the diminishing returns effect dominates the spreading effect, causing the average total cost curve to slope upwardSlide19

Marginal Cost slopes upward –result of diminishing returns

AVC also slopes upward due to diminishing returns, but is flatter than the MCSlide20

Minimum Average Total Cost

For a U-shaped ATC curve, ATC is at its minimum level at the bottom of the U

The quantity of output that corresponds to the minimum ATC is the minimum-cost output

Minimum-cost output is the quantity of output at which average total cost is lowest – the bottom of the U-shaped average total cost curveSlide21

Minimum Average Total Cost

Principles that are true for a firm’s MC and ATC curves:

At M-Cost Output,

ATC is = to MC

At output less than the

M-Cost Output, MC is less than ATC and ATC is fallingAnd at output greater than the M-Cost Output, MC is greater than ATC and ATC is risingSlide22

Minimum Average Total Cost

The MC curve must cut

through the ATC curve at

the minimum ATC (point M)

corresponding to the

minimum-cost outputWhat if MC is different from ATC?If MC is less than the ATC, an increase in output must reduce ATCIf MC is greater than ATC, an increase in output must increase ATCSlide23

Does MC Curve also Slope Upward?

Economists say NO!

MC curves often slope downward as a firm increases it production from zero up to some low level, sloping upward only at higher levels of production

This initial downward slope occurs because a firm that employs only a few workers often cannot reap the benefits of specialization of labor. This specialization can lead to

increasing

returns at first, and so to a downward-sloping marginal cost curve. Once there are enough workers to permit specialization, however, diminishing returns set in.Slide24

Does MC Curve also Slope Upward?

A realistic MC curve has a “swoosh” shape

Starting from a

very low output level,

MC often falls as the

firm increases outputWhy? Hiring more workers allows greater specialization of their tasks and leads to increasing returnsOnce specialization is achieved, diminishingreturns to additional workers sets in and MC rises.Slide25

Marginal Cost and Average Cost NotesSlide26

Marginal Cost

Remember Marginal Cost?

Easiest to calculate if data on total cost are available in increments of one unit of outputSlide27

Marginal Cost

Selena’s Gourmet Salsa produces bottled salsa

The table below shows the costs per day based on the number of cases of salsaSlide28

Marginal Cost

The significance of the slop of the total cost curve is shown by the fifth column – marginal cost of case

The general formula for marginal cost:Slide29

Marginal Cost

Like marginal product, the marginal cost is equal to “rise” (________________) divided by “run” (_____________________________)

Marginal product is =

Marginal cost is = Slide30

Marginal CostSlide31

Marginal Cost

Remember, as output increases, the marginal cost of output also increases because the marginal product of the variable input decreasesSlide32

Average Cost

Average total cost is referred to as average cost and it is total cost divided by quantity of output producedSlide33

Average Cost

Average total cost is in important because it tells the producer how much the average or typical unit of output costs to produce

Marginal cost tells the producer how much one more unit of output costs to produceSlide34

Average Cost

What is the total cost of producing 4 cases of salsa?Slide35

Average Cost

The average total cost curve has a U shape that corresponds to Slide36

Average Cost

U-shaped average total cost curve falls at low levels of output then rises at higher levels

Economics believe that the U-shaped average total cost curve are the norm for producers in many industriesSlide37

Average Cost

Why is it U-shaped though?

Average fixed cost (AFC) is fixed cost divided by the quantity of output (also known as the fixed cost per unit of output)Slide38

Average Cost

Average fixed cost (AFC) is fixed cost divided by the quantity of output (also known as the fixed cost per unit of output)

Average variable cost (AVC) is variable cost divided by the quantity of output, also known as variable cost per unit of outputSlide39

Average Cost

ATC is the sum of average fixed cost and average variable cost, it has a U shape because

The relationship between the two is as more output is produced, the fixed cost is spread over more units of output; the end result is that the fixed cost per unit of output (average fixed cost) fallsSlide40

Average Cost

AVC rises as output __________

Each additional unit of output incurs more variable cost to produce than the previous unit

Increases output has two opposing effects on average total costSlide41

Average Cost

“__________________” – the larger the output, the greater the quantity of output over which fixed cost is spread, leading to lower average fixed cost

At low levels of output, the spreading effect is very powerful because even small increases in output cause large reductions in average fixed cost.

At low levels of output, the spreading effect dominates the diminishing returns effect and causes the average total cost curve to slope downward

When output is large, average fixed cost is already small and so increases output further has only a very small spreading effectSlide42

Average Cost

“_______________________” – the larger the output, the greater the amount of variable input required to produce additional units, leading to a higher average variable cost

Diminishing returns usually only grow increasingly important as output rises

When output is large, the diminishing returns effect dominates the spreading effect, causing the average total cost curve to slope upwardSlide43

Slide44

Minimum Average Total Cost

For a U-shaped ATC curve, ATC is at its minimum level at the bottom of the U

The quantity of output that corresponds to the minimum ATC is the minimum-cost output

Minimum-cost output is the quantity of output at which average total cost is lowest – the bottom of the U-shaped average total cost curveSlide45

Minimum Average Total Cost

Principles that are true for a firm’s MC and ATC curves:

At M-Cost Output,

At output less than the

M-Cost Output,

And at output greater than the M-Cost Output, MC is greater than ATC and ATC is risingSlide46

Minimum Average Total Cost

The MC curve must cut

through the ATC curve at

the minimum ATC (point M)

corresponding to the

minimum-cost outputWhat if MC is different from ATC?Slide47

Does MC Curve also Slope Upward?

Economists say NO!

MC curves often slope downward as a firm increases it production from zero up to some low level, sloping upward only at higher levels of production

This initial downward slope occurs because a firm that employs only a few workers often cannot reap the benefits of specialization of labor. This specialization can lead to

increasing

returns at first, and so to a downward-sloping marginal cost curve. Once there are enough workers to permit specialization, however, diminishing returns set in.Slide48

Does MC Curve also Slope Upward?

A realistic MC curve has a “swoosh” shape

Starting from a

very low output level,

MC often falls as the

firm increases outputWhy? Once specialization is achieved, diminishingreturns to additional workers sets in and MC rises.