1. DO NOW!!
True story… I was deciding what to do for day care when I had a second child. Day care for 2 kids costs $2000. Having a live-in nanny costs $1500 out of pocket for her salary, food, etc. Imagine the benefits are equal…
 Which should I choose? Why?

2. DO NOW!!
A common term used by top executives is “Opportunity Cost of Capital”.
What do you think that means?
How do you think it might relate to our concept of Normal profits vs. Economic Profits?

3. What are all the costs to produce something?
Production Costs
What are all the costs to produce something?

4. Economic Costs
Explicit costs: repeating monetary payments to produce (labor, machines, rent, factors of prod.)
Implicit costs: opportunity costs of production (lost wages/profits of doing something else…)
Economic Costs: Explicit and Implicit (opportunity) costs

5. Accounting vs. Economic Profit
Accounting profit: TR - Explicit costs
Economic Profit: TR – Economic costs
=TR –Explicit costs– Implicit Costs (OC)
* Normal Profit: amount entrepreneur feels is fair return (enough to keep him in business) Considered an I.C.
Even if a company makes $, they may not be earning economic profit…
 How could that be true?

6. Accounting vs. Economic Profit
Example: John owns a business. He spends $5000 on workers, $10000 on machines, and $15000 on rent. His revenue from the business is $40000.
What is his accounting profit?
Now pretend John gets a job offer for $20000 to work for a friend.
 Now, what is John’s economic profit? Should he take the offer?

7. DO NOW!!
As you might know, Henry Ford’s greatest innovation was the assembly line…
Why do you think it was successful?
What do you think would happen if Ford kept adding people to his assembly line indefinitely?

8. Short Run vs. Long Run Short Run: Fixed Plant
At least one fixed input
 output changed through labor or one other resource only
Long Run: variable Plant
can change any input
firms can enter/exit the market

9. Short Run Production
Total Product (TP): total quantity or output produced [aka: Q]
Marginal Product (MP): extra output created by adding unit of resource (rise in TP from hiring 1 more worker)
Average Product (AP):
Avg. Product = Total Product
units of Labor

10. Law of Diminishing Returns
All else fixed, the more variable units added to a fixed resource, the less added output each new input creates.
The more workers hired, the less each added worker will produce (MP falls)
3 Production stages:
increasing returns (MP rising)
decreasing returns (MP falling)
negative returns (MP negative)

11. Example Chart Units of Labor Total Product (Q) Marginal Product
Average Product 1 10 2 25 15
12.5 3 45 20
____ 4
_____ 5 70 6 75 7
10.71 8
8.75

12. Graph like this… (find 3 stages!!) * What’s neat about MP and AP?
Units of Labor
Total Product (Q)
Marginal Product
Average Product 1 10 2 25 15
12.5 3 45 20 4 60 5 70 14 6 75 7
10.71 8 -5
8.75
Graph like this… (find 3 stages!!)
* What’s neat about MP and AP?

13. DO NOW!!
What are the costs of producing EZ Mac (Mac+Cheese)?

14. Short-Run Production Costs
Fixed Costs (FC): Don’t change w/ output paid even if TP = 0
ex: Rent, insurance, buildings…
Variable Costs (VC): Change with output  as TP rises, VC rises
ex: labor, electricity, materials…
Total Cost (TC): FC+VC

15. Short-Run Production Costs
Per-unit Costs (divided by Q or TP)
AFC = Avg. Fixed Cost = FC/Q
AVC = Avg. Var. Cost = VC/Q
ATC = Avg. Total Cost = TC/Q
MC = Marginal Cost
= change in TC/change in Q (MP)
(Cost of producing one more unit)

16. Check out the Chart (pg161)…
Total Product (Q)
Total Fixed Cost
Total Variable Cost
Total Cost
Average Fixed Cost
Average Variable Cost
Average Total Cost
Marginal Cost
100
----- 1 90
190 2
170
270 50 85
_____ 80 3
____
340
33.33
113.33 70 4
300 25 75 60 5
370
470 74 94 6
550
16.67
91.67 7
540
640
14.29
77.14
91.43 8
650
12.5
81.25
93.75 9
780
880
11.11
86.67
97.78
130 10
930
1030 93
103
150
Graphing looks like this…

17. Relationship between curves…
ATC curve = AVC+AFC curves
***MC crosses AVC and ATC at their Minimum points!
Change in FC affects AFC, ATC
Change in VC affects AVC, ATC, and MC
Increase in Technology = Decrease in AVC, ATC, and MC

18. What happens if...? (curve shifts)
Rent on factory increases?
Cost for materials increases?
Wages decrease?
Per unit tax increase?
Lump sum tax increase?
Worker training makes workers more efficient?

19. DO NOW!!
Have you heard of the words “Economies of Scale”? If so, what do you think it means?

20. Long Run Costs In LR, all costs are variable (No FC)
Long Run ATC composed of all SR ATC’s. creates same ATC shape…
When ATC falls with increased plants, it’s called Economies of Scale
Achieved by specialization of labor, managers, more efficient capital…
Eventually LR ATC rises: “Disecon. of scale” Often from managerial costs