Output and Costs

Introduction

Profit = TR – TC

ACC. Profit ECCON. Profit

= TR – TC = TR – TC

= P.Q – TC (Explicit) = P.Q – TC

Explicit cost

Implicit cost

Opportunity cost
What is “Normal Profit?

 Business will be state of normal profit when its economic profit = ZERO.
 Normal Profit is also often called “Zero economic profit”.
 Normal profit and Economic profit are the same.
 Total Revenue – (Explicit cost + Implicit cost) = 0.
 Total revenue > total expenses (Explicit cost + Implicit cost) this case called:
(Economic profit or super-normal profit or abnormal profit).
 Total revenue < total expenses (Explicit cost + Implicit cost) this case call:
(economic loss).

What is “implicit cost”?

 An implicit cost is any cost that already occurred but is not necessarily shown or reported
as a separate expense.
 Implicit costs should always be considered when coming to a decision on how to allocate
company resources.
 Implicit costs are intangible costs that are not easily accounted for.
 In most cases, Implicit costs are not recorded for accounting purpose.
 The main difference between explicit costs and implicit costs is that implicit costs are
opportunity costs while explicit costs are paid expenses.
 Implicit costs help managers calculate overall economic profit, while explicit costs are
used to calculate accounting profit and economic profit.

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Examples:

1. The allocates time toward the maintenance of company rather than allocating those
hours elsewhere.
2. When a company hires a new employee, there are implicit costs to train that employee.
If a manager allocates eight hours of an existing employee's day to teach this new team
member, the implicit costs would be the existing employee's hourly wage, multiplied by
eight. This is because the hours could have been allocated toward the employee's
current role.

Short run and Long run

Decisions Time Frames

Short-run decision Long-run decision

 Short-run is a time frame in which  Long-run is a time frame in which
quantity of at least one factor of quantities of all factors can be varied.
production is fixed.  In long-run is period firm’s plant can
 What is the fixed factors & variable change.
factors?  Long-run decisions are not easily
For most of firms, capital, land and reversed.
entrepreneurship are fixed factors and labor  Once a Long-run decision is made,
is the variable factor. firm usually must live with it for some
 What is the firm’s plant? time.
We call the fixed factors (In short run) a firm’s
plant.
 In the short run decision usually firm’s
plant is not changing or at least one of
the fixed factors is fixed.
 Short-run decisions are easily
reversed.

Remember that the

aim of any decision is
Profit Maximization
Term Symbol Definition Equation
Total fixed cost TFC Cost of the fixed factors of production
Total variable cost TVC Cost of the variable factors of
production
Total cost TC Cost of all factors of production TC=TFC+TVC
Output (total product) TP Total quantity produced (output Q)
Marginal cost MC Change in total cost resulting from a MC= TC/Q
one-unit increase in total product
Average fixed cost AFC Total fixed cost per unit of output AFC= TFC/Q
Average variable cost AVC Total variable cost per unit of output AVC= TVC/Q
Average total cost ATC Total cost per unit of output ATC=AFC+AVC

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 1- Short-run Production Processes

When Q = output & F = Inputs So:

Q = F (X1, X2, X3, X4)

Labor (L) Total product (TP) Marginal product (MP) = Average product
Q ∆Q÷∆ L (productivity)
(AP) = Q ÷ L
0 0 0 0
Stage 1 (IR)
1 3 3 3
Increasing returns 2 7 4 3.5
3 12 5 4
4 16 4 4
5 19 3 3.8
Stage2 (DR) 6 21 2 3.5
Decreasing returns
7 22 1 3.1
8 22 Zero 2.75
9 20 -2 2.1
Stage 3 (NR)

Hints 1-
 We will realize that the outputs (Total product, Q) are in maximum level when the
marginal product (MP) equal to ZERO.
QMaximum → MP=ZERO
 Total product will be in increasing curve as long as marginal product is greater than
ZERO value.
Q ↑→ MP> ZERO
 Total product will be in decreasing curve as long as marginal product is Less than ZERO
value.
Q ↓→ MP< ZERO
2-
 MP> AP → AP↑ (if the marginal product is greater than avradge product then the
AP will be in an incresing curve).
 MP< AP → AP↓ (if the marginal product is greater than avradge product then the
AP will be in a decresing curve).
 MP=AP → AP is Maximum (if the marginal product is equal to avradge product
then the AP is in maximum level).

3- (L)can be calculated by hours or number of workers.

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The law of diminishing returns
As a firm uses more of a variable factor of production with a given quantity of the fixed factor of production, the
marginal product of the variable factor eventually diminishes.

Total product curve

25

22 22
21
20 20
19

16
15
output- Q

12
10

7
5
3

00
0 1 2 3 4 5 6 7 8 9
Labor-L

Marginal Product curve

6
5
4
3
2
MP

1
0
0 1 2 3 4 5 6 7 8 9
-1
-2
-3
L

Optimal range

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Can you recommend the optimal number of workers from the given curve
and data?
Answer is no. to answer this question we need more information about the
cost.
We can only decide the optimal range of workers.