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Date Submitted: 09/25/2011 05:07 AM

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The Costs of Production

What are Costs?

• Total revenue

– Amount a firm receives for the sale of its output

• Total cost

– Market value of the inputs a firm uses in production

• Profit

– Total revenue minus total cost


What are Costs?

• Costs as opportunity costs

– The cost of something is what you give up to get it

• Firm’s cost of production

– Include all the opportunity costs

• Making its output of goods and services


What are Costs?

• Costs as opportunity costs • Explicit costs

– Input costs that require an outlay of money by the firm

• Implicit costs

– Input costs that do not require an outlay of money by the firm


What are Costs?

• The cost of capital as an opportunity cost

– Implicit cost – Interest income not earned

• On financial capital

– Owned as saving – Invested in business

• Not shown as cost by an accountant


What are Costs?

• Economic profit

– Total revenue minus total cost

• Including both explicit and implicit costs

• Accounting profit

– Total revenue minus total explicit cost


Figure 1 Economists versus accountants

Economists include all opportunity costs when analyzing a firm, whereas accountants measure only explicit costs. Therefore, economic profit is smaller than accounting profit


Production and Costs

• Production function

– Relationship between

• Quantity of inputs used to make a good • And the quantity of output of that good

– Gets flatter as production rises

• Rational people think at the margin • Marginal product

– Increase in output

• Arising from an additional unit of input


Production and Costs

• Diminishing marginal product

– Marginal product of an input declines as the quantity of the input increases

• Total-cost curve

– Relationship between quantity produced and total costs – Gets steeper as the amount produced rises




A production function and total cost: Caroline’s cookie factory...