1. Costs

2. Bob`s Creepy Dolls

5. Fixed Costs Definition: Do not vary with output.
As production levels change, the value of the fixed costs stay constant.
Examples:
Rent
Insurance
A priest on call just in case one of the dolls comes alive.

6. Variable Costs Definition: Costs that vary with output.
Output increases, so do variable costs.
Output decreases, so do variale costs.
Fabric
Wood
Electricity

7. Semi-Variable Costs Labour for example:
Are the workers paid hourly or monthly?
Are the workers full time or part time.
Basically, it depends on the circumstances.

8. Imputed Costs/Economic Costs
Definition:Costs that are not incurred directly. The opportunity Costs of using the factors of production.

9. Imputed Costs
Basically: What has been given up to use the factors of production.
What are the four factors of production?

10. Imputed Costs Example:
Bob has to borrow CHF 1,000,000 to start his doll business.
He could be using that CHF 1,000,000 to invest in bonds that will pay a 5% return per year.

11. Imputed Costs Example: Bob is a very successful stock market analyst.
He could be spending his time picking winning stocks and earning a lot of money that way.

12. Imputed Costs
Example: Bob could rent the doll factory space to someone who makes creepy clown costumes.

13. Total Costs Total Fixed Costs+Total Variable Costs
Fixed Costs for 100 Dolls = CHF 100,000
Variable costs for 100 Dolls = 100 CHF/Doll
What are the Total Costs of 100 Dolls?

14. Answer Fixed Costs = CHF 100,000 Variable costs = 100 Dolls x 100 CHF
Total Variable costs= CHF 10,000
Total Costs= CHF 100,000 + CHF 10,000
Total Costs = CHF 110,000

15. Average Costs Total Cost/ Level of Output.
Bob`s Average Cost for 100 Dolls is:
CHF 110,000/100
Average Cost = CHF 1,100 per Doll.

16. That is an expensive doll
But it talks to you when you are all alone in a room with it.
Only when it knows you are truly alone.

17. Average Costs Now Bob makes 1000 dolls.
How much does that cost in total?

18. Average Costs Total Fixed Cost = CHF 100,000
Total Variable cost = 100CHF x 1000 Dolls
Total Variable cost= CHF 100,000

19. Fixed Cost = CHF 100,000
Variable Cost = 100,000
Total Cost = CHF 200,000
Average Cost per Doll =
CHF 200,000/ 1000
Average Cost = CHF 200 per doll.

20. Average Costs
So, why did the average cost per doll go down so much?

21. Average Costs Basically, the fixed costs remained the same.
The variable costs did go up.
However, we are dividing the fixed costs by more dolls.

22. Average Costs
But wait……this is economics.
Where is the graph?

23. Short Term Cost Curves

24. Short Term Cost Curves
As Output goes up, the average fixed costs go down
As output goes up, the average Variable and Total Costs go down, then begin to go Back up again.
Why?

25. Law of Diminishing Marginal Returns
This is why his marginal costs begin to go back up again.
This states when you have a fixed factor, and you add a variable factor to that in the production process – the return will eventually begin to diminish.

26. Law of Diminishing Marginal Returns
Remember this is in the short term.
Short term: One factor of production is fixed.
Example: Bob currently has 10 sewing machines.

27. Marginal Returns
Now Bob is paying more and more for workers and not producing that many more dolls.
His average costs begin to go up.

28. Diminishing Marginal Returns
As Bob produces more dolls, he needs more workers to use the sewing machines.
However, at a certain point Bob has more workers than sewing machines.
Two workers may be faster with one sewing machine than one.

29. Example 1 worker + 1 machine = 10 Dolls Average: 10 Dolls per worker.
2 Workers + 1 machine = 26 Dolls
Average: 13 Dolls per worker
3 Workers + 1 machine = 27 Dolls
Average: 9 Dolls per worker

30. Here is your graph.

31. Long Term Costs
Why is the law of diminishing marginal returns not a problem in the long run?

32. Long Term Costs All factors are variable in the long run.
Bob can buy more sewing machines and his average costs begin to go back down again.

33. Long Run Average Costs
But, the long run average cost curve is still U-Shaped because of Economies and Diseconomies of Scale.

35. Economies of Scale
Definition: Lower average costs due to expansion.

36. Economies of Scale Purchasing Economies:
Buying in bulk for less money per unit of the material purchased
Bob buys his fabric from the manufacturer, not the Migros.

37. Economies of Scale
Marketing Economies.

38. Economies of Scale Marketing Economies:
Budweiser can afford to pay for these advertisements because of their size.

39. Economies of Scale Technical Economies:
A Big toy firm can afford doll building robots.
These robots can produce 1000 dolls an hour.

40. Lego Production

41. Economies of Scale Financial Economies:
Large companies can get lower interest rates on loans. They are less risky.
Large companies can issue shares/stock.

42. Economies of Scale Risk Bearing Economies:
A larger company can have a larger range of products. If one product fails, the entire company will not.

44. External Economies of Scale
All firms in the industry benefit due to expansion.

45. Silicon Valley California
Computer industry.
1. Great infrastructure.
2. Skilled Labour
3. Good suppliers
4. Possible co-operation and help between competitors.

46. Diseconomies of Scale
Long Run average costs begin to rise.
Why?

47. Bureaucracy: Too much administration and paperwork.
Labour relations:
More trade union members.
Distant relationship between manager and worker and this can lead to apathy.

48. More Legal Fees:
Larger companies are involved in disproportionately more court cases than small ones. This represents a waste of resources and time and pushes up average cost.

49. 5,000 Lawsuits are filed against Wal Mart each year.

50. External Diseconomies
The Industry Expands.
Demand for Factor Imputs increases.
Price of Factor Imputs increases.