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A Review of Costs

A Review of Costs. Why Spend so much time on costs? 1. Firms max Profits=TR – TC 2. Costs help determine price 3. Gov’t often regulates based costs. Types of Costs. Total Fixed Costs (TFC) Sunk Costs Avoidable Costs Total Variable Costs (TVC) Total Costs (TC = TFC + TVC)

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A Review of Costs

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  1. A Review of Costs Why Spend so much time on costs? 1. Firms max Profits=TR – TC 2. Costs help determine price 3. Gov’t often regulates based costs

  2. Types of Costs • Total Fixed Costs (TFC) • Sunk Costs • Avoidable Costs • Total Variable Costs (TVC) • Total Costs (TC = TFC + TVC) • Marginal Costs

  3. Types of Costs, continued • Average Variable Costs (AVC) • = TVC(q)/q • Average Fixed Costs (AFC) • = TFC/q • Average Total Costs (ATC) • = AVC + AFC = TC(q)/q

  4. Things to Note About Costs • At q=0, MC = AVC • When AVC is falling, MC < AVC • When AVC is rising, MC > AVC • Min. of AVC is to the left of AC

  5. An Example

  6. An Example

  7. Economies of Scale • Based on ATC • IRTS (ATC is falling) • CRTS (ATC is “flat”) • DRTS (ATC is rising)

  8. A Measure of Economies • S = ATC/MC • S > 1  ATC > MC  IRTS • S = 1  ATC = MC  CRTS • S < 1  ATC < MC  DRTS

  9. Recall ……………………. • Shut-Down Decision • Firm should shut down if P < min. AVC • Implications of Economic Profits = 0

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