copyright©2004 south-western mods 52-56 the costs of production
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Mods Mods 52-5652-56
The Costs of Production
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The Firm’s Objective
The economic goal of the firm is to maximize profits!!!
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Total Revenue, Total Cost, and Profit
Profit = Total revenue - Total costProfit = Total revenue - Total cost
P = TR - TCP = TR - TC
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Costs• Explicit and Implicit Costs
• Explicit costs are input costs that require a direct outlay of money by the firm.
• Implicit costs are input costs that do not require an outlay of money by the firm—they are opportunity costs of being in business, rather than doing something else.
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Accounting Profit
• Accountants measure the accounting profit as the firm’s total revenue minus only the firm’s explicit costs.
• AP=TR-EC only
• So…if that is a positive number—accountants say you are making a profit.
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Economic Profit
• Economists measure a firm’s economic profit as total revenue minus total cost, including both explicit and implicit costs.
• EP=TR-TC (EC + IC)• When economic profit is equal to zero, or
break-even, the firm is said to be earning a “normal profit” or “zero economic profit.”
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Accountants versus Economists
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Revenue
Totaloppcosts
How an EconomistViews a Firm
How an AccountantViews a Firm
Revenue
Economicprofit
Implicitcosts
Explicitcosts
Explicitcosts
Accountingprofit
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THE VARIOUS MEASURES OF COST
• Costs of production may be divided into:
fixed costs and variable costs.
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Fixed and Variable Costs
• Fixed costsFixed costs are those costs that DO NOT vary with the quantity of output produced.
• Variable costsVariable costs are those costs that DO Vary with the quantity of output produced.
• Practice problems