Pre-assessment

How the consumer weighs up the benefits (utility) of consuming various

amounts of goods or combinations of goods against their costs (their
price)?

 Think about the last product you purchased recently

 How much it costs?
 Are you satisfied ??
The Supply Decision
 Objectives

After studying this lesson you will be able to :

 Define the supply cost
 Distinguish between the short run cost and the long run cost
 Analysis the law of diminishing returns
 Distinguish between the fixed factors and the variable factors.
 Measure the cost of production
 Production in the short run
 Supply cost

How much firms choose to supply at each price ?

It depends on the amount of profit they will make

Produce more profit more

How you can measure Profit ????!!!!!!!

 Supply cost

Total Profit = Total Revenues - Total Costs

How you can maximise the profit ?????!!!!!!

 Short-run and long-run changes in production

If a firm wants to increase production, it will take time to acquire a

greater quantity of certain inputs.

If, then, the firm wants to increase output relatively quickly, it will be
able to increase the quantity of only certain inputs.
It can use more raw materials, more fuel, more tools and possibly more
labor . But it will have to make do with its existing buildings and most of
its machinery.

.’
 Fixed and Variable factors

The distinction we are making here is between fixed factors and

variable factors .
 A fixed factor is an input that cannot be increased within a given time
period (e.g. buildings).

A variable factor is an input that can be increased within a given time

period
Because of this two factors the supply cost can be divided into two
costs ………….
 Short-run

The short run is a time period during which at least one factor of

production is fixed. In the short run, then, output can be increased only

by using more variable factors

 Long-run

The long run is a time period long enough for all inputs to be varied.

Given long enough, a firm can build additional factories and install new

plant and equipment

 Challenge Group Work - Gallery walk

There is high demand on a coffee shop ……

What is the short run costs????

What is the long run costs????

 Short run period

Short run period is not a fixed period

 Production in the short run

 The law of diminishing returns

 ‘When one of more factors are held fixed, there will come a point beyond which the
extra output from additional units of the variable factor will diminish.’

 Example ……. You have a farm

 Short-run Costs

Measuring costs of production

 opportunity cost :
It is the cost of any activity measured in terms of the sacrifice made in doing
it
OR
the cost measured in terms of the opportunities forgone.
 Short-run Costs

How to measure the Opportunity cost?

1- Factors of productions costs.
2- measure the sacrifice involved

To do this it is necessary to put factors into two categories.

Explicit costs Implicit costs

(not owned by firm) ( already owned by firm)
 Short-run Costs

Measuring costs of production

 opportunity cost
 explicit costs
 implicit costs
irrelevance of sunk costs (historic costs)
Costs and inputs
 costs and the productivity of factors of production
 costs and the price of factors of production
 fixed and variable costs
 Short-run Costs

Total cost
 total fixed cost (TFC)
 total variable cost (TVC)
 TVC and the law of diminishing returns
 total cost (TC = TFC + TVC)
Average cost
 average fixed cost (TFC/Q)
 average variable cost (TVC/Q)
 average (total) cost (TC/Q) = AFC + AVC

Marginal cost = ΔTC/ΔQ

Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Total, average and marginal cost for firm X
Create the graph for TFC , TVC , TC using the attached table
Assuming the price of labor (L) is $5 per unit and the price of capital
(K) is $10 per unit, what production technique should this firm use to
produce 2 units of output?
 production technique A
 production technique B
 The firm is indifferent between production technique A and production technique B.
 It is impossible to determine if the firm should select production technique A or B because total fixed costs
are not given.
 Short-run Costs

Average and marginal cost curves

 marginal cost
 Average and marginal costs

MC

Costs (£)

Output (Q)
 Short-run Costs

Average and marginal cost curves

 marginal cost
 marginal cost (MC) and the law of diminishing returns
 Average and marginal costs

MC

Diminishing marginal
returns set in here
Costs (£)

Output (Q)
 Short-run Costs

Average and marginal cost

 marginal cost
 marginal cost (MC) and the law of diminishing returns
 average cost
 average fixed cost (AFC)
 average variable cost (AVC)
 average (total) cost (AC)
 Average and marginal costs

MC
AC

AVC
Costs (£)

x
AFC

Output (Q)
 Short-run Costs

Average and marginal cost

 marginal cost
 marginal cost (MC) and the law of diminishing returns
 relationship between MC and TC curves
 average cost
 average fixed cost (AFC)
 average variable cost (AVC)
 average (total) cost (AC)
 relationship between AC and MC
 Average and marginal costs

MC
AC

AVC
Costs (£)

x
AFC

Output (Q)
 Q If the marginal cost is below the average
cost, then:

A. the marginal cost must be falling.

B. the marginal cost must be rising.

C. the average cost must be falling.

D. the average cost must be rising.

E. the average cost could be either rising or falling depending on

whether the marginal cost is rising or falling.
 Independent task

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