XI Economics

Concept of Cost
Cost :- In simple terms the amount incurred or spent to produce the
commodity is known as cost. Cost is includes, cost of fixit factors of
production as will as variable factors of production.

Production cost:- Whatever amount incurred by the producer to

produce goods and services is known as production cost.

Selling cost:- The amount incurred by the producer to promote its

product and which helps to increase the sale of the commodity. Many
new firms use this cost to promote its product.

EXPLICIT COST AND IMPLICIT COST

Explicit cost: These are those expenses which are actually paid
outside the business. No assumption should be there. eg- interest on
loan, rent paid, etc.

Implicit cost:- These are those expenses which are not required to
pay outside the business, but assumed to be there in the business. Eg.
Imputes rent, depreciation.

Total cost (TC):- Total cost is a cost of fixed factors as well as

variable factors of production. It is a summation of fixed cost as well
as variable cost.

Total Cost= Total fixed cost + Total variable cost.

[ T C = TFC + TVC ]
Total fixed cost- It is a cost of fixed factors of production. It remains
same at all level of output. Even when production is zero total fixed
cost remain same. Eg. Salary of permanent employers, minimum
electricity bill, rend paid, interest of on loan etc.

Diagram:

Fixed cost curve is parallel to x-axis formula:

[ TFC= TC- TVC]

Total Variable cost: It is a cost of variable factors of production. It

changes as level of output change. When production is zero, variable
cost is O and it production increases, variable cost also increase.

It can be calculated by

TC-TFC= TVC

Diagram:

TC=TFC+TVC
Q TFC TVC TC
0 20 0 20
1 20 10 30
2 20 15 35
3 20 20 40
4 20 25 45
5 20 30 50
Total variable cost and total cost curve both are parallel to each other
Eg. Wages paid to workers, raw material cost, electricity bill above
minimum level etc.

Average Cost (AC) :- It can be calculate by- Or AC= AVC+AFC

It is a total cost per unit of output. It is also known as unit cost

of production. It is a summation of average fixed cost and average
variable cost.

Average fixed cost (AFC): It can be calculated by- Or AC-

AVC=AFC

It is a total fixed cost per unit of output. As the output increase,

AFC goes on diminishing. But it never touch x-axis or y-axis

Average Variable cost (AVC): It can be calculated by- Or AC-

AFC=AVC

It is a total variable cost per unit of output. AVC curve is il

shape curve units

1. At zero level of output, TC= TFC

2. At first level of output total & variable cost- marginal cost.

Q. Calculate different cost from the following information:

Q TC
0 100
1 170
2 250
 3 350
4 500
5 590
6 650
Sol.

Q TC TFC TVC AC AFC AVC

0 100 100 0 ∞ ∞ 0
1 170 100 70 170 100 70
2 250 100 150 125 50 75
3 350 100 250 116.6 33.3 83.3
4 500 100 400 125 25 100
5 590 100 490 118 20 198
6 650 100 550 108.3 16.6 91.5

Marginal cost- It is an additional cost due to additional level of

output.

It can be calculated by:

MC= TCn-TCn-1

Or

TVCn-TVCn-1

Relation between various cost

1. Relation between 'TC' and 'MC'

 'M C' is calculate from 'TC' i.e

TCn-TCn-1
  When 'MC' is increasing 'TC' increase at an increasing
rate.
 When 'MC' is diminishing, 'TC' increase at a diminishing
rate.
 When 'MC ' is –ve, 'TC' goes on diminishing
 When 'MC' is zero, 'TC' is constant and maximum

2. Relation between 'MC' and 'AC'

 When 'MC' and 'AC' both are increasing in that case 'MC'
is greater than 'AC'
 When 'MC' and 'AC' both are diminishing in that case 'MC'
is less than 'AC' because 'MC' can be o or –ve but 'AC'
cannot be o or –ve
 'MC' and 'AC' from its lowest point.

Different curves:

1. Marginal cost and average variable cost:

Diagram:

Marginal cost and AVC curve both are in 'U' shape, this is
because of law of variable proportion. According to this law as more
and more variable factors are applied along with fixed factors initially
production goes on increasing than it goes on diminishing. It includes
three stages
Stage I- increasing return to factors.

In the first stage when more variable factors are applied along
with fixed factors cost should be diminishing and production goes on
increasing

Stage- II- Diminishing return to factors:

In this stage cost and production almost remains constant. There

is not too much change in cost and production.

Stage- III- Negative return to factors

In the final stage of negative returns to factors when more and

more variable factors are applied then due to overutilization of
resource or disguise unemployment cost should be increasing and
production goes or diminishing.

2. Average fixed cost curve:

As production goes on increasing AFC goes on diminishing. At

every successive unit AFC goes on diminishing but it never touches
x-axis or y-axix. AFC curve is rectangle hyperbola; . It means that at
any point of AFC multiply by 'Q' is equal to TFC., which remains
constant at different level of output. So it creates rectangle hyperbola.