Costoutput Relationship www mbaknol com Costoutput relationship has

Cost-output Relationship www. mbaknol. com

Cost-output relationship has 2 aspects: § Cost-output relationship in the short run, § Cost-output relationship in the long run § The SR is a period which doesn’t permit alterations in the fixed equipment (machinery , building etc) & in the size of the org. § The LR is a period in which there is sufficient time to alter the equipment (machinery, building, land etc. ) & the size of the org. output can be increased without any limits being placed by the fixed factors of production www. mbaknol. com

Cost-output Relationship In The Short Run www. mbaknol. com

Short Run may be studied in terms of § Average Fixed Cost § Average Variable Cost § Average Total cost www. mbaknol. com

§ Total, average & marginal cost § Fixed cost & variable cost 1. Total cost (TC) = TFC + TVC, 1. Total fixed cost (TFC) = rise as output rises cost of using fixed factors = cost that does not change when output is 2. Average cost (AC) = changed, e. g. TC/output 2. Total variable cost (TVC) 3. Marginal cost (MC) = change = cost of using variable in TC as a result factors = cost that of changing output by one changes when output is unit changed, www. mbaknol. com

Average Fixed Cost and Output § The greater the output, the lower the fixed cost per unit, i. e. the average fixed cost. § Total fixed costs remain the same & do not change with a change in output. www. mbaknol. com

Average Variable Cost and output § The avg. variable costs will first fall & then rise as more & more units are produced in a given plant. § Variable factors tend to produce somewhat more efficiently near a firm’s optimum output than at very low levels of output. § Greater output can be obtained but at much greater avg variable cost. § E. g. if more & more workers are appointed, it may ultimately lead to overcrowding & bad org. moreover, workers may have to be paid higher wages for overtime work. www. mbaknol. com

Average Total cost and output § Average total cost, also known as average costs, would decline first & then rise upwards. § Average cost consists of average fixed cost plus average variable cost. § Average fixed cost continues to fall with an increase in output while avg. variable cost first declines & then rises. www. mbaknol. com

§ So , as Avg. variable cost declines the Avg. total cost will also decline. But after a point the Avg. variable cost will rise. § When the rise in AVC is more than the drop in Avg. fixed cost that the Avg. total cost will show a rise. www. mbaknol. com

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Cost-output Relationship In The Long-Run www. mbaknol. com

§ long run period enables the producers to change all the factor & he will be able to meet the demand by adjusting supply. Change in Fixed factors like building, machinery, managerial staff etc. . § All factors become variable in the long run. § In the long run we have only 3 costs i. e. total cost, Average cost & Marginal Cost www. mbaknol. com

1. Total cost (TC) = TFC + TVC, rise as output rises 2. Average cost (AC) = TC/output 3. Marginal cost (MC) = change in TC as a result of changing output by one unit www. mbaknol. com

§ When all the short run situations are combined, it forms the long run industry. § During the SR, Demand is less & the plant’s capacity is limited. When demand rises, the capacity of the plant is expanded. § When SR avg. cost curves of all such situations are depicted, we can derive a long run cost curve out of that. § We can make a LR cost curve by joining the tangency points of all SR curves www. mbaknol. com

§ We use long run costs to decide scale issues, for example mergers. § In the long run, we can build any size factory we wish, based on anticipated demand, profits, and other considerations. § Once the plant is built, we move to the short run. Therefore, it is important to forecast the anticipated demand. Too small a factory and marginal costs will be high as the factory is stretched to over produce. § Conversely too large a factory results in large fixed costs (e. g. . air conditioning, or taxes) and low profitability. www. mbaknol. com

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