2. Cost Concept:
It is used for analyzing the cost of a
project in short and long run.
3. Types of Cost:
Total fixed costs (TFC)
Average fixed costs (AFC)
Total variable costs (TVC)
Average variable cost (AVC)
Total cost (TC)
Average total cost (ATC)
Marginal cost (MC)
4. Fixed Costs(FC)
Fixed Cost denotes the costs which do not
vary with the level of production. FC is
independent of output.
Eg: Depreciation, Interest Rate, Rent, Taxes
Total fixed cost (TFC):
All costs associated with the fixed input.
Average fixed cost per unit of output:
AFC = TFC /Output
5. Variable Costs(VC)
Variable Costs is the rest of total cost, the part that
varies as you produce more or less. It depends
on Output.
Eg: Increase of output with labour.
Total variable cost (TVC):
All costs associated with the variable
input.
Average variable cost- cost per unit of output:
AVC = TVC/ Output
6. Total costs(TC)
The sum of total fixed costs and
total variable costs:
TC = TFC +
TVC
Average Total Cost
Average total cost per unit of output:
ATC =AFC + AVC
ATC = TC/ Output
7. Marginal Costs
The additional cost incurred from
producing an additional unit of output:
MC = ∆ TC
∆ Output
MC = ∆ TVC
∆ Output
8. Typical Total Cost Curves
TVC,TC is always increasing:
First at a decreasing rate.
Then at an increasing rate
10. AFC is always MC is generally
declining at a increasing.
decreasing rate. MC crosses ATC and
ATC and AVC decline AVC at their minimum
at first, reach a point.
minimum, then If MC is below the average
increase at higher value:
levels of output. Average value will be
The difference decreasing.
between ATC and AVC If MC is above the average
value:
is equal to AFC.
Average value will be
increasing.
11. Production Rules for the Short-Run
1.If expected selling price < minimum AVC (which
implies TR < TVC):
A loss cannot be avoided.
Minimize loss by not producing.
The loss will be equal to TFC.
2.If expected selling price < minimum ATC but >
minimum AVC:
(which implies TR > TVC but < TC)
A loss cannot be avoided.
Minimize loss by producing where MR = MC.
The loss will be between 0 and TFC.
12. Contd…
3.If expected selling price > minimum ATC (which
implies TR > TC):
A profit can be made.
Maximize profit by producing where:
MR = MC
14. Long Run Costs Curve:
All costs are variable in the long run.
There is only AVC in LR, since all factors
are variable.
It is also called as Planning Curve or
Envelope or scale curve.
15. Production Rules for the Long-Run
1.If selling price > ATC (or TR > TC):
Continue to produce.
Maximize profit by producing where
MR = MC.
2.If selling price < ATC (or TR < TC):
There will be a continual loss.
Sell the fixed assets to eliminate fixed costs.
Reinvest money is a more profitable
alternative.
16. Long Run Cost Curve
Economies of scale Diseconomies of scale
M
M-optimum level of production
17. Economies of Scale:
Economies of scale are the cost
advantages that a firm obtains due to
expansion. Diseconomies is the opposite.
Two types:
1. Pecuniary Economies of Scale:
Paying low prices because of buying
in large Quantity.
18. 2.Real Economies of Scale:
Refers to reduction in physical
quantities of input , per unit of output
when the size of the firm increases, as a
result input cost minimized.
19. Diseconomies:
1.Internal Economies: It is a condition
which brings about a decrease in LRAC of
the firm because of changes happening
within the firm.
e.g.As a company's scope increases, it may
have to distribute its goods and services in
progressively more dispersed areas. This
can actually increase average costs
resulting in diseconomies of scale.
20. 2.External Economies:
It is a condition which brings about a
decrease in LRAC of the firm because of
changes happening outside the firm.
E.g. Taxation policies of Gov…