The Supply Curve

Diminishing Returns – Using Marginal Analysis

•Firms employing one additional unit to create another good or service.

The Law of Diminishing Returns

• As we add more variable inputs to at least one fixed input total output increases at a decreasing rate.

Lesson Objective

• L.I : Working out the costs for a firm.

• L.O : To understand the explicit costs for a firm and how to calculate them.

The cost family (revision)

Fixed Cost

Variable Cost

FC vs VC to calculate TC

2508250925010

25072506250525042503250225012500

Fixed Costs (FC)

Output

350440540

280230190160140120700

Variable Costs (VC)

Total Costs (TC)

Lets add in more kids to the cost whanau

Average Cost

Average Variable Cost

Average Fixed Cost

AC(ATC) and AVC and AFC

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25072506250525042503250225012500

Fixed Costs (FC)

Output

350440540

280230190160140120700

Variable Costs (VC)

Total Costs (TC)

Average Costs (AC)

Average Variable

Costs (AVC)

Average Fixed Costs

(AFC)

Add in the Marginal Cost!!! MC = TC1-TC2

Quick Quiz

Quantity (cans of

coke)

Total Utility(TU)

Marginal Utility (MU)

(cents)

1 200 200

2 350

3 100

4 500

5 0

Price(cents)

Quantity of Coke cans

50

100

150

200

250

Explain why this demand curve slopes downward to the right, for cans of coke.

Quick QuizQuantity (cans of

coke)

Total Utility(TU)

Marginal Utility (MU)

(cents)

1 200 200

2 350 150

3 450 100

4 500 50

5 500 0

Price(cents)

Quantity of Coke cans

50 4

100 3

150 2

200 1

250 0

A rational consumer will only purchase more cans of coke until point P=MU (optimal purchase rule) is reached.

When the price of Coke falls, P<MU. Because P<MU, there is an incentive to increase consumption of coke. As consumption

Increases MU falls.

Therefore a demand curve is drawn downward sloping to the right (i.e. as price falls, quantity demanded will increase)

Lesson Objective

• L.I : Working out the costs for a firm.

• L.O : To understand the explicit costs for a firm and how to calculate them.

Curve exploration

• Lets look at the Curves and come up with some conclusions!!!!

• Split into groups:

• Group 1 – AFC curve shape

• Group 2 – MC shape

• Group 3 – AVC shape

• Group 4 – AC shape

• Group 5 – At what points does MC cut the AC and AVC

• Group 6 – Distance between AC and AVC (the gap between them)

Some important questions

• Why would a firm not supply when P<MC?

• Why, when MC intersects AVC and AC do both AVC and AC slope upwards?

• Why, does the gap between AVC and AC grow closer as output increases?

• What does the intersection between AVC and MC represent?

TableQuantit

yFC VC TC AFC AVC AC MC

0 120 0 120

1 120 30 150 120 30 150 30

2 50 170 60 25 85 20

3 120 63 183 40 21 61 13

4 120 76 196 30 19 49 13

5 95 24 19 43

6 120 20 20 40 25

7 120 150 270 17 21 39

8 200 320 15 25 40 50

9 120 290 410 13 32 46 90

10 120 420 12 42 54 130

11 650 770 11 59 70 230

Some important points.

• The Shut down point AVC = MC

• The Break even point AC = MC

Quick Test

1. At what unit does DIMINISHING RETURNS set in?

2. At what point is shutdown point and at what output in the table does this occur?

3. Why will they not supply any output at this price?

4. At what point is breakeven point and at what output on the table does this occur?

5. Complete the schedulePrice Quantity

$30

$50

$70

Quick Test

1. At what unit does DIMINISHING RETURNS set in? 4

2. At what point is shutdown point and at what output in the table does this occur? MC = AVC, 5

3. Why will they not supply any output at this price? They are not covering any FC and all of their VC

4. At what point is breakeven point and at what output on the table does this occur? MC = AC, 7-8

5. Complete the schedule

Price Quantity

$30 0

$50 7

$70 9

Shape of the Supply Curve

• Explain why the Supply Curve is sloped upwards to the right.

Diminishing Returns suggests more inputs are required to produce an extra unit of output. Given more variable inputs are required to increase output marginal costs increase.

A firm will only increase output if they receive a higher price to cover the additional cost of producing.

Therefore the increasing MC will cause the supply curve to slope upward to the right.

Change in Costs

• Explain what happens to our cost curves if electricity cost go up.

Quick test

Labour costs have gone up for this business.

Explain what happens to output position at shutdown point. Use a diagram to help you

Explain what happens to output position at breakeven point. Use a diagram to help you

Explain why the supply curve in the short run slopes upwards to the right.

Answers

Diminishing Returns suggests more inputs are required to produce an extra unit of output. Given more variable inputs are required to increase output marginal costs increase.

A firm will only increase output if they receive a higher price to cover the additional cost of producing.

Therefore the increasing MC will cause the supply curve to slope upward to the right.

Putting it together.

• Market Equilibrium!!!!! Revision, tax and elasticity!!!