By David F. Heathfield
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Extra info for An Introduction to Cost and Production Functions
Let us now look at the problem in the short run. 11. The character of the solution is the same as in the long run. The firm will produce q* because at q* we have MR = Me. ~--MR = q* q level is (EC - ED) ' q* = the area ABCD. The difference between the long and short run is: (a) there is no entry and (b) the reaction to price falling below minimum average total cost is not always to close down. In the short run the firm will continue producing until the price falls below the AVC curve. This is because the firm has to pay the fixed costs whether it produces or not, hence the firm will find it profitable to go on producing as long as it can cover its variable costs.
Thus, ATC = AVC, where AVC = average variable costs. The marginalcost (MC) is the increase in total costs following a unit increase in output. 10) By holding input prices constant, we can study the variation of cost with output. The shape of the cost functions do of course depend on the underlying production function, and in particular, its scale properties. 5. At first we have a phase with increasing returns to scale and later on a phase with decreasing returns. 5 shows that this leads to a total cost curve with first a decreasing slope and then an increasing slope.
5we see that increasing output by one unit demands proportionately lessand less of inputs up to the level q = 4. After that, one additional unit of output demands proportionately more and more of inputs. This is the same as saying that factor productivity increases up to q = 4 and decreases thereafter or that the process exhibits increasing returns to scale in the interval D-4 (units of output) and decreasing returns to scale for output levels greater than four units. Transforming this to the isoquant map we might say that increasing returns to scale means that the isoquant map becomes more and more dense as output grows, while the opposite is true for decreasing returns.
An Introduction to Cost and Production Functions by David F. Heathfield