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Cost Concept:
Types of Cost:
Fixed Costs(FC)
Fixed Cost denotes the costs which do not vary
with the level of production. FC is
independent of output.
Eg: Depreciation, Interest Rate, Rent, Taxes
Variable Costs(VC)
Variable Costs is the rest of total cost, the part that
varies as you produce more or less. It depends on
Output.
Eg: Increase of output with labour.
Total costs(TC)
The sum of total fixed costs and total
variable costs:
TC = TFC + TVC
Average Total Cost
Average total cost per unit of output:
ATC =AFC + AVC
ATC = TC/ Output
Marginal Costs
AFC is always
declining at a
decreasing rate.
ATC and AVC decline
at first, reach a
minimum, then
increase at higher
levels of output.
The difference
between ATC and AVC
is equal to AFC.
MC is generally
increasing.
MC crosses ATC and
AVC at their minimum
point.
If MC is below the average
value:
Average value will be
decreasing.
If MC is above the average
value:
Average value will be
increasing.
Contd
3.If expected selling price > minimum ATC (which
implies TR > TC):
A profit can be made.
Maximize profit by producing where:
MR = MC
SP
SP
Economies of scale
Diseconomies of scale
Economies of Scale:
Economies of scale are the cost
advantages that a firm obtains due to
expansion. Diseconomies is the opposite.
Two types:
1. Pecuniary Economies of Scale:
Paying low prices because of buying
in large Quantity.
Diseconomies:
1.Internal Economies: It is a condition which brings about
a decrease in LRAC of the firm because of changes
happening within the firm.
e.g.As a company's scope increases, it may have to
distribute its goods and services in progressively more
dispersed areas. This can actually increase average costs
resulting in diseconomies of scale.
2.External Economies:
It is a condition which brings about a
decrease in LRAC of the firm because of
changes happening outside the firm.
E.g. Taxation policies of Gov