PRODUCTION AND COSTS

Business Firm
An entity that employs factors of production (resources) to produce goods and services to be sold to consumers, other firms, or the government.

Market Coordination
The process in which individuals perform tasks, such as producing certain quantities of goods, based on changes in market forces, such as supply, demand, and price.

Managerial Coordination
The process in which managers direct employees to perform certain tasks.

Shirking
The behavior of a worker who is putting forth less than the agreed-on effort.

Monitor
A person in a business firm who coordinates team production and reduces shirking.

Residual Claimants
Persons who share in the profits of a business firm.

Profit
The difference between total revenue and total cost.

Explicit Cost
A cost incurred when an actual (monetary) payment is made.

Implicit Cost
A cost that represents the value of resources used in production for which no actual (monetary) payment is made.

Accounting Profit
The difference between total revenue and explicit costs.

Economic Profit
The difference between total revenue and total cost, including both explicit and implicit costs.

Normal Profit
Zero economic profit. A firm that earns normal profit is earning revenue equal to its total costs (explicit plus implicit costs). This is the level of profit necessary to keep resources employed in the firm.

Fixed Input
An input whose quantity cannot be changed as output changes.

Variable Input
An input whose quantity can be changed as output changes.

Short Run
A period of time in which some inputs in the production process are fixed.

Long Run
A period of time in which all inputs in the production process can be varied (no inputs are fixed).

Marginal Physical Product (MPP)

The change in output that results from changing the variable input by one unit, holding all other inputs fixed.

Law of Diminishing Marginal Returns

As ever larger amounts of a variable input are combined with fixed inputs, eventually the marginal physical product of the variable input will decline.

Fixed Costs
Costs that do not vary with output; the costs associated with fixed inputs.

Variable Costs
Costs that vary with output; the costs associated with variable inputs.

Total Cost (TC )

The sum of fixed costs and variable costs. TC = TFC + TVC

Marginal Cost (MC )

The change in total cost that results from a change in output: MC= TC/ Q.

Average Fixed Cost (AFC )

Total fixed cost divided by quantity of output: AFC = TFC/Q.

Average Variable Cost (AVC )

Total variable cost divided by quantity of output: AVC = TVC/Q. Average Total Cost (ATC ), or Unit Cost

Total cost divided by quantity of output: ATC = TC/Q.

Average-Marginal Rule
When the marginal magnitude is above the average magnitude, the average magnitude rises; when the marginal magnitude is below the average magnitude, the average magnitude falls.

Sunk Cost
A cost incurred in the past that cannot be changed by current decisions and therefore cannot be recovered.

 A curve that shows the lowest (unit) cost at which the firm can produce any given level of output.

Long-Run Average Total Cost (LRATC ) Curve

Economies of Scale

Economies that exist when inputs are increased by some percentage and output increases by a greater percentage, causing unit costs to fall.

Constant Returns to Scale

The condition when inputs are increased by some percentage and output increases by an equal percentage, causing unit costs to remain constant.

Diseconomies of Scale

The condition when inputs are increased by some percentage and output increases by a smaller percentage, causing unit costs to rise.

Minimum Efficient Scale

The lowest output level at which average total costs are minimized.