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Long Run Cost Output Relations

- Long-run cost-output relations are determined by analyzing cost functions and cost curves over multiple short-run periods as a firm adjusts its scale of production. - In the long-run, variables include long-run total cost (LTC), long-run average cost (LAC), and long-run marginal cost (LMC), which are composed of multiple short-run cost curves. - For a company producing stuffed animals, the optimal plant size that minimizes long-run average cost is 300 units of production, as this is the point where the long-run average cost curve reaches its minimum. Expanding beyond this point would increase costs in the long-run.

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283 views19 pages

Long Run Cost Output Relations

- Long-run cost-output relations are determined by analyzing cost functions and cost curves over multiple short-run periods as a firm adjusts its scale of production. - In the long-run, variables include long-run total cost (LTC), long-run average cost (LAC), and long-run marginal cost (LMC), which are composed of multiple short-run cost curves. - For a company producing stuffed animals, the optimal plant size that minimizes long-run average cost is 300 units of production, as this is the point where the long-run average cost curve reaches its minimum. Expanding beyond this point would increase costs in the long-run.

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chadaram_hemchand
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LONG-RUN COST-OUTPUT

RELATIONS
-A Series of short-run production decision

MANAGERIAL ECONOMICS
MBA - ’A’

BY
PRAVARLIKA
SANDHYA RANI
HINA CHOUDARY
SRIDHAR
ESWAR VARMA
HEMCHAND
CONTENTS
 Concepts Of Cost
 Analytical Cost Concepts

 Cost Curves

 Short- Run Cost – Output Relationship

 Optimum point at Short-Run.

 Long-Run Cost- Output Relationship

 Optimum point at Long-Run.


 Theory Of Cost:
Behavior of cost in relation to change in output.
 Basic Principle Of Cost:
Total Cost increases with increase in output.

Cost Functions:
 Short-RunCost Function
 Long-Run Cost Function

Cost output relations are determined by Cost


Functions and Cost Curves
ANALYTICAL COST CONCEPTS

Total Cost (TC)

Total Fixed Total Variable


Cost (TFC) Cost (TVC)
 Total Cost - Actual cost incurred in production of
goods and services.
TC=TFC+TVC …….(1)
 Total Fixed Cost – The cost of plant, building etc
which remains fixed in a period of time.
 Total Variable Cost - Varies with the variation in
output like raw material, labour etc.
 Average Cost- Dividing the total cost(TC) by the total output (Q).

AC=TC/Q ……….(2)

 Average Fixed Cost- Total Fixed Cost (TFC) to the total quantity
produced (Q).
 Average Variable Cost- Total Variable Cost (TVC) to the Total
Quantity Produced (Q).

From (2) substitute (1)


AC = TFC/Q + TVC/Q
AC = AFC + AVC
 Marginal Cost- change in Total Cost (TC) divided
by change in total Output(Q).
MC = ∂TC/∂Q
As we know that from (1)
∂TC= ∂TFC + ∂TVC
∂TFC=0
MC = ∂TVC
(under marginality concept)
When ∂Q=1
COST CURVES

Linear Cost Function:

In form: AC = MC = Example:
TC = a TC/Q = ∂TC/∂ TC = 60
+ b Q a/Q + b Q=b + 10Q
SHORT – RUN COST – OUTPUT
RELATIONSHIP
 Consider equation of Quadratic cost function:
TC = 200 + 5Q +2
 Output
Optimization in Short – Run when
MC = AC
AC = TC/Q = 200/Q + 5 + 2Q
MC = ∂TC/∂Q = 5 +4 Q
200/Q+5+2Q = 5+4Q
Q = 10
Thus, cost function is optimum at Q=10
Thus, cost function is optimum at Q=10
LONG – RUN COST OUTPUT RELATIONS
 Defined as:
Relationship between the changing scale of firm to total
output.
 Derive Long – Run Cost Curve:

Composed of a series of Short – Run Cost Curves.

Here Long – Run variables are:


Long –Run Total Cost (LTC) = min (STC1 + STC2 +STC3)
Long–Run Average Cost (LAC) = min (SAC1 + SAC2 +SAC3)
Long–Run Marginal Cost(LMC) = min (SMC1 + SMC2 +SMC3)
EXAMPLE:
 Consider Wacky Willy Company. The production of
Wacky Willy Stuffed Amigos (those cute and cuddly
armadillos, tarantulas, and scorpions).

Product Factory Size Average Total Cost


Production level
Plant1 10,000 sq.ft 100
Plant2 20,000 sq.ft 200
Plant3 30,000 sq.ft 300
Plant4 40,000 sq.ft 400
Plant5 50,000 sq.ft 500
PRODUCTION P1 P2 P3 P4 P5
PLANT
RANGE 100-135 135-240 240-360 360-465 465+
ADDING ANOTHER FOUR PRODUCTS
The 4 additional factories reach their min values at 150, 250, 350,& 450
Stuffed Amigos.
OPTIMUM PLANT SIZE IN LONG-RUN
 Ensures most efficient utilization of resources.
 The downtrend of LRAC curve indicates, it is optimum
utilization at the point of 300.
 If it crosses the Minimum Optimum level, the cost will
be increasing.
 Minimum average cost of factory is attained at

SAC=SMC=LAC=LMC
SUMMARY

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