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Costs in the Long Costs in the Long Run Run Important to note the Important to note the differences from the short differences from the short run run

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Costs in the Long Run. Important to note the differences from the short run. Production in the Long run. All factors of production are variable in the long run The scale of production: returns to scale - output/input ratio constant returns to scale - output/input is constant - PowerPoint PPT Presentation

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Page 1: Costs in the Long Run

Costs in the Long Costs in the Long RunRunImportant to note the differences Important to note the differences from the short runfrom the short run

Page 2: Costs in the Long Run

Production in the Long Production in the Long runrunProduction in the Long Production in the Long runrun

All factors of production are variable in the All factors of production are variable in the

long runlong run

The scale of production:The scale of production:

returns to scale - output/input ratioreturns to scale - output/input ratio

constant returns to scale - output/input is constantconstant returns to scale - output/input is constant

increasing returns to scale - output/input is risingincreasing returns to scale - output/input is rising

decreasing returns to scale output/input is fallingdecreasing returns to scale output/input is falling

Page 3: Costs in the Long Run

Economies of scaleEconomies of scale

““Economies of scale exist when the Economies of scale exist when the expansion of a firm or industry allows the expansion of a firm or industry allows the product to be produced at a lower unit cost product to be produced at a lower unit cost … Economies of scale are only possible if … Economies of scale are only possible if there is sufficient demand for the product, there is sufficient demand for the product, eg we would hardly expect to find eg we would hardly expect to find economies in the production of artificial economies in the production of artificial limbs, because there are simply not limbs, because there are simply not enough demanded!”enough demanded!”

Page 4: Costs in the Long Run

Internal economies of Internal economies of scalescale

Come about from the Come about from the growth of the firm growth of the firm regardless of what is regardless of what is happening to other happening to other firmsfirms

Page 5: Costs in the Long Run

Types of internal Types of internal economieseconomies

TechnicalTechnical Marketing/commercialMarketing/commercial PurchasingPurchasing Financial/Risk-bearingFinancial/Risk-bearing Organisational/HumanOrganisational/Human

Page 6: Costs in the Long Run

Economies of scale - technicalEconomies of scale - technical specialisation & division of labourspecialisation & division of labour indivisibilitiesindivisibilities principle of multiplesprinciple of multiples container principlecontainer principle

Production in the Long Production in the Long runrunProduction in the Long Production in the Long runrun

Page 7: Costs in the Long Run

Economies in actionEconomies in action

Page 8: Costs in the Long Run

External economies of External economies of scalescale

Economies of concentration – specialist Economies of concentration – specialist supplierssuppliers

Economies of information – industries share Economies of information – industries share researchresearch

Economies of disintegration – large firms Economies of disintegration – large firms employ smaller firms to carry out processesemploy smaller firms to carry out processes

Page 9: Costs in the Long Run

Diseconomies of scaleDiseconomies of scale InternalInternal

communicationcommunication ManagementManagement Higher labour costs – overmanning/overtimeHigher labour costs – overmanning/overtime

Production in the Long Production in the Long runrunProduction in the Long Production in the Long runrun

Diseconomies of scaleDiseconomies of scale ExternalExternal

Shortage of skilled labour and high wage costsShortage of skilled labour and high wage costs Shortage of raw materialsShortage of raw materials CongestionCongestion High rents and property costsHigh rents and property costs

Page 10: Costs in the Long Run

Costs in the Long runCosts in the Long runCosts in the Long runCosts in the Long run

Long-run average costsLong-run average costs shape of the shape of the LRACLRAC curve curve

Page 11: Costs in the Long Run

Alternative long-run average Alternative long-run average cost curvescost curves

Alternative long-run average Alternative long-run average cost curvescost curves

OutputO

Co

sts

(a)(a) Economies of scale Economies of scale

LRAC

Page 12: Costs in the Long Run

OutputO

Co

sts

(b)(b) Diseconomies of scale Diseconomies of scale

LRAC

Alternative long-run average Alternative long-run average cost curvescost curves

Alternative long-run average Alternative long-run average cost curvescost curves

Page 13: Costs in the Long Run

OutputO

Co

sts

(c)(c) Constant costs Constant costs

LRAC

Alternative long-run average Alternative long-run average cost curvescost curves

Alternative long-run average Alternative long-run average cost curvescost curves

Page 14: Costs in the Long Run

A typical long-run average cost A typical long-run average cost curvecurve

A typical long-run average cost A typical long-run average cost curvecurve

OutputO

Co

sts

LRAC

Page 15: Costs in the Long Run

OutputO

Co

sts

LRACEconomiesof scale

Constantcosts

Diseconomiesof scale

A typical long-run average cost A typical long-run average cost curvecurve

A typical long-run average cost A typical long-run average cost curvecurve

Page 16: Costs in the Long Run

Deriving long-run average cost curves: Deriving long-run average cost curves: factories of fixed sizefactories of fixed sizeDeriving long-run average cost curves: Deriving long-run average cost curves: factories of fixed sizefactories of fixed size

SRAC1

Co

sts

OutputO

1 factory

Page 17: Costs in the Long Run

Deriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed sizeDeriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed size

SRAC1

SRAC2

Co

sts

OutputO

2 factories

Page 18: Costs in the Long Run

Deriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed sizeDeriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed size

SRAC1

SRAC3SRAC2

Co

sts

OutputO

3 factories

Page 19: Costs in the Long Run

Deriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed sizeDeriving long-run average cost Deriving long-run average cost curves: factories of fixed sizecurves: factories of fixed size

SRAC1

SRAC3SRAC2

SRAC4

SRAC5

Co

sts

OutputO

5 factories

4 factories

Page 20: Costs in the Long Run

Deriving a long-run average cost Deriving a long-run average cost curve: choice of factory sizecurve: choice of factory sizeDeriving a long-run average cost Deriving a long-run average cost curve: choice of factory sizecurve: choice of factory size

LRAC

Co

sts

OutputO

Page 21: Costs in the Long Run

CostsCosts

A common topic in the exams!A common topic in the exams! Know the difference between Know the difference between

increasing/diminishing returns and increasing/diminishing returns and economies of scaleeconomies of scale

Difference between short run and long Difference between short run and long runrun

Page 22: Costs in the Long Run

Test your knowledgeTest your knowledge

Are you a donkey or an elephant?Are you a donkey or an elephant?


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