How to find the average cost of production. Fixed and variable costs: examples. Variable Cost Example
Production costs have their own classification, divided in relation to how they "behave" when changing production volumes. Costs related to different types behave differently.
Fixed costs (FC, TFC)
fixed costs, as the name implies, this is a set of costs of the enterprise that arise regardless of the volume of products produced. Even when an enterprise does not produce (sell or provide services) anything at all. The abbreviation sometimes used in the literature to refer to such costs is TFC (time-fixed costs). Sometimes it is applied and simply - FC (fixed costs).
Examples of such costs may be the monthly salary of an accountant, rent for premises, land fees, etc.
It should be understood that fixed costs (TFC) are actually conditionally fixed. To a certain extent, they are still affected by production volumes. Imagine that a system for automatic removal of chips and waste is installed in the workshop of a machine-building enterprise. With an increase in the volume of output, it seems that no additional costs arise. But if a certain limit is exceeded, additional preventive maintenance of equipment, replacement of individual parts, cleaning, elimination of current malfunctions, which will occur more often, will be required.
Thus, in theory, fixed costs (expenses) in fact, are such only conditionally. That is, the horizontal line of costs (costs) in the book, in practice, is not. Let's say that it is close to some constant level.
Accordingly, in the diagram (see below), such costs are conditionally shown as a horizontal TFC chart
Variable Production Costs (TVC)
Variable production costs, as the name implies, is a set of costs of the enterprise, which directly depend on the volume of products produced. In literature this species costs are sometimes abbreviated TVC (time-variable costs). As the name suggests, " variables"- means increasing or decreasing simultaneously with a change in the volume of products produced by production.
Direct costs include, for example, raw materials that are part of the final product or are consumed in the production process in direct proportion to its load. If an enterprise produces, for example, cast blanks, then the consumption of the metal of which these blanks are composed will directly depend on the production program. To denote the expenditure of resources that are directly used to manufacture a product, the term "direct costs (costs)" is also used. These costs are also variable costs, but not all, since this concept is wider. A significant part of production costs is not directly included in the composition of the product, but varies in direct proportion to the volume of production. Such costs are, for example, the cost of energy resources.
It should be borne in mind that a number of costs for resources used by the enterprise must be divided in order to classify costs. For example, the electricity that is used in heating furnaces of a metallurgical enterprise is referred to as variable costs (TVC), but the other part of the electricity consumed by the same enterprise for lighting the territory of the plant is already referred to as fixed costs (TFC). That is, the same resource that the enterprise has consumed can be divided into parts that can be classified in different ways - as variable or as fixed costs.
There are also a number of costs, the costs of which are classified as conditionally variable. That is, they are associated with production processes, but do not have a directly proportional relationship with respect to production volumes.
In the diagram (see below), variable production costs are displayed as a TVC plot.
This graph is different from the linear one it should be in theory. The fact is that with sufficiently small volumes of production, the direct costs of production are higher than they should be. For example, a mold is designed for 4 castings, and you produce two. The melting furnace is loaded below the design capacity. As a result, more resources are spent than the technological standard. After overcoming a certain value of production volumes, the schedule variable costs(TVC) becomes close to linear, but further, when a certain value is exceeded, the costs (in terms of a unit of output) begin to grow again. This is due to the fact that when the normal level is exceeded production possibilities enterprises, it takes more resources to produce each additional unit of output. For example, pay employees overtime, spend more money for equipment repair (in case of irrational operating modes, repair costs grow exponentially), etc.
Thus, variable costs are considered to be subject to a linear schedule only conditionally, on a certain segment, within the normal production capacity of the enterprise.
Total Enterprise Cost (TC)
The total costs of an enterprise are the sum of variables and fixed costs. They are often referred to in the literature as TC (total costs).
That is
TC = TFC + TVC
where costs by type:
TC - common
TFC - permanent
TVC - Variables
In the diagram, the total costs are reflected in the TC graph.
Average fixed costs (AFC)
average fixed cost called the quotient of dividing the amount of fixed costs per unit of output. In the literature, this value is referred to as A.F.C. (average fixed costs).
That is
AFC = TFC / Q
where
TFC - fixed production costs (see above)
The meaning of this indicator is that it shows how many fixed costs per unit of output. Accordingly, with the growth of production, each unit of the product has a decreasing share of fixed costs (AFC). Accordingly, a decrease in the amount of fixed costs per unit of production (services) of the enterprise leads to an increase in profits.
On the diagram, the value of the AFC indicator is displayed by the corresponding AFC graph
Average Variable Cost (AVC)
average variable cost called the quotient of dividing the amount of costs for the production of products (services) to their quantity (volume). The abbreviation is often used to refer to them. AVC(average variable costs).
AVC=TVC/Q
where
TVC - variable production costs (see above)
Q - quantity (volume) of production
It would seem that, per unit of output, variable costs should always be the same. However, for reasons discussed earlier (see TVC), production costs fluctuate per unit of output produced. Therefore, for indicative economic calculations, the value of average variable costs (AVC) is taken into account at volumes close to the normal capacity of the enterprise.
On the diagram, the dynamics of the AVC indicator is displayed by a graph with the same name
Average cost (ATC)
The average cost of the enterprise is the quotient of dividing the sum of all the costs of the enterprise to the value of the products (works, services) produced. This value is often referred to as ATC (average total costs). There is also the term " total cost units of production.
ATC=TC/Q
where
TC - total (total) costs (see above)
Q - quantity (volume) of production
It should be noted that this value is suitable only for very rough calculations, calculations with minor deviations in the value of production or with a small share of fixed costs in the total cost of the enterprise.
With an increase in production volumes, the calculated value of costs (TC), obtained based on the values of the ATC indicator and multiplied by the volume of production, other than the calculated one, will be greater than the actual one (costs will be overestimated), and with a decrease, on the contrary, they will be underestimated. This will be due to the influence of semi-fixed costs (TFC). Since TC = TFC + TVC, then
ATC=TC/Q
ATC = (TFC + TVC) / Q
Thus, with a change in production volumes, the value of fixed costs (TFC) will not change, which will lead to the error described above.
Dependence of types of costs on the level of production
The graphs show the dynamics of values various kinds costs depending on the volume of production at the enterprise.
Marginal Cost (MC)
marginal cost is the incremental cost required to produce each additional unit of output.
MC = (TC 2 - TC 1) / (Q 2 - Q 1)
The term "marginal cost" (often referred to in the literature as MC - marginal costs) is not always correctly perceived, as it was the result of not quite correct translation English word margin. In Russian, "ultimate" often means "aspiring to the maximum", while in this context it should be understood as "being within the boundaries". Therefore, authors who know English(here we smile), instead of the word "marginal" they use the term "marginal costs" or even just " marginal cost".
From the above formula, it is easy to see that MC for each additional unit of production will be equal to AVC in the interval [ Q 1 ; Q2].
Since TC = TFC + TVC, then
MC = (TC 2 - TC 1) / (Q 2 - Q 1)
MS = (TFC + TVC 2 - TFC - TVC 1) / (Q 2 - Q 1)
MS = (TVC 2 - TVC 1) / (Q 2 - Q 1)
That is, marginal (marginal) costs are exactly equal to the variable costs required to produce additional output.
If we need to calculate MC for a specific production volume, then we assume that the interval we are dealing with is [ 0; Q ] (that is, from zero to the current volume), then at the "zero point" variable costs are zero, production is also zero, and the formula is simplified to the following form:
MS = (TVC 2 - TVC 1) / (Q 2 - Q 1)
MS = TVC Q / Q
where
TVC Q are the variable costs required to produce Q units of output.
Note. You can evaluate the dynamics of various types of costs on the technical
Economic and accounting costs.
In economics costs most often called the losses that the manufacturer (entrepreneur, firm) is forced to bear in connection with the implementation of economic activities. These can be: spending money and time on organizing production and acquiring resources, loss of income or product from missed opportunities; the costs of collecting information, concluding contracts, promoting goods on the market, preserving goods, etc. Making a choice among different resources and technologies, a rational manufacturer seeks to minimal cost, therefore selects the most productive and cheapest resources.
The production costs of any product can be represented as a set of physical or cost units of resources expended in its manufacture. If we express the value of all these resources in monetary units, we get the value of the costs of producing this product. Such an approach will not be erroneous, but it seems to leave unanswered the question of how the value of these resources will be determined for the subject, which will determine one or another line of his behavior. The task of an economist is to choose the optimal use of resources.
Costs in the economy are directly related to the denial of the possibility of producing alternative goods and services. This means that the cost of any resource is equal to its cost, or value, subject to the best of all possible options for its use.
Distinguish between external and internal costs.
External or explicit costs- these are cash costs for paying for resources owned by other firms (payment for raw materials, fuel, wages, etc.). These costs, as a rule, are taken into account by the accountant, are reflected in the financial statements and therefore are called accounting.
At the same time, the firm can use its own resources. In this case, too, costs are inevitable.
Internal costs - is the cost of using own resources firms that do not take the form of cash payments.
These costs are equal to the cash payments that the firm could receive for its own resources if it chose the best option for using them.
Economists consider as costs all payments external and internal including in the last and normal profit.
Normal or zero profit it is the minimum payment required to keep the entrepreneur interested in the chosen activity. This is the minimum payment for the risk of working in this area of the economy, and in each industry it is assessed in its own way. It is called normal because it is similar to other incomes, reflecting the contribution of a resource to production. Zero - because, in fact, it is not a profit, representing a part of the total production costs.
Example. You are the owner of a small shop. You have purchased goods worth 100 million rubles. If the accounting costs for the month amounted to 500 thousand rubles, then you must add to them the lost rent (let's say 200 thousand rubles), the lost interest (let's say you could put 100 million rubles in the bank at 10% per annum, and receive approximately 900 thousand rubles) and a minimum risk fee (let's say it is equal to 600 thousand rubles). Then the economic cost is
500 + 200 + 900 + 600 = 2200 thousand rubles
Production costs in the short run, their dynamics.
The production costs incurred by the firm in the production of products depend on the possibility of changing the amount of all employed resources. Some types of costs can be changed quite quickly (labor, fuel, etc.), others require a certain time for this.
Based on this, short-term and long-term periods are distinguished.
Short term - is the period of time during which the firm can change its output only by variable costs, while production capacity remains unchanged. For example, hire more workers, buy more raw materials, use equipment more intensively, etc. From this it follows that in short term costs can be either fixed or variable.
fixed costs (FC) These are costs that do not depend on the volume of production.
Fixed costs are associated with the very existence of the firm and must be paid even if the firm does not produce anything. These include: rent payments, deductions for depreciation of buildings and equipment, insurance premiums, interest on loans, labor costs for management personnel.
variable costs (VC) These are costs that vary with the volume of production.
At zero release, they are absent. These include: the cost of raw materials, fuel, energy, most of the labor resources, transport services, etc. The firm can control these costs by changing the volume of production.
Total production costs (TC) - is the sum of fixed and variable costs for the entire volume of output.
TC = total fixed costs (TFC) + total variable costs (TVC).
There are also average and marginal costs.
Average cost - is the cost per unit of output. Average short-term costs are divided into average fixed, average variable and average total.
Average fixed costs (A.F.C.) are calculated by dividing the total fixed costs by the quantity of output produced.
Average variable costs (AVC) are calculated by dividing total variable costs by the amount of output produced.
Average total cost (ATC) calculated by the formula
ATC = TC / Q or ATC = AFC + AVC
The category is very important for understanding the behavior of a firm. marginal cost.
Marginal Cost (MC)– is the additional cost associated with producing one more unit of output. They can be calculated using the formula:
MS =∆TS / ∆Qwhere ∆Q= 1
In other words, marginal cost is the partial derivative of the total cost function.
Marginal cost enables the firm to determine the feasibility of increasing the production of goods. To do this, compare marginal cost with marginal revenue. If the marginal cost is less than the marginal revenue received from the sale of this unit of output, then production can be expanded.
As production volumes change, costs change. The graphic representation of cost curves reveals some important patterns.
Fixed costs, given their independence from production volumes, do not change.
Variable costs are zero when output is not being produced and increase as output increases. Moreover, at first the growth rate of variable costs is high, then it slows down, but after reaching a certain level of production, they increase again. This nature of the dynamics of variable costs is explained by the action of the laws of increasing and diminishing returns.
Gross costs are equal to fixed costs when output is zero, and with an increase in production, the gross cost curve repeats the shape of the variable cost curve.
Average fixed costs will continuously decrease following the growth of production volumes. This is because fixed costs are spread over more units of output.
The average variable cost curve is U-shaped.
The curve of average total costs also has such a shape, which is explained by the ratio of the dynamics of AVC and AFC.
The dynamics of marginal costs is also determined by the law of increasing and diminishing returns.
The MC curve intersects the AVC and AC curves at the points of the minimum value of each of them. This dependence of the limiting and average values has a mathematical justification.
In practice, the concept of production costs is usually used. This is due to the difference between the economic and accounting meaning of costs. Indeed, for an accountant, costs are actually spent amounts of money, documented costs, i.e. expenses.
costs as economic term, includes both the actual amount of money spent and the lost profits. By investing money in any investment project, the investor loses the right to use it in another way, for example, to invest in a bank and receive a small, but stable and guaranteed, unless, of course, the bank goes bankrupt, interest.
The best use of available resources is called economic theory opportunity cost or opportunity cost. It is this concept that distinguishes the term "costs" from the term "costs". In other words, costs are costs reduced by the amount of the opportunity cost. Now it becomes obvious why in modern practice it is the costs that form the cost and are used to determine taxation. After all, the opportunity cost is a rather subjective category and cannot reduce taxable income. Therefore, the accountant deals with costs.
However, for economic analysis opportunity cost are of fundamental importance. It is necessary to determine the lost profit, and “is the game worth the candle?” It is precisely on the basis of the concept of opportunity costs that a person who is able to create his own business and work "for himself" may prefer a less complex and nervous type of activity. It is on the basis of the concept of opportunity cost that one can draw a conclusion about the expediency or inexpediency of making certain decisions. It is no coincidence that when determining the manufacturer, contractor and subcontractor, a decision is often made to declare open competition, and when evaluating investment projects in conditions where there are several projects, and some of them need to be postponed for a certain time, the lost profit coefficient is calculated.
Fixed and variable costs
All costs, minus alternative costs, are classified according to the criterion of dependence or independence from the volume of production.
Fixed costs are costs that do not depend on the volume of output. They are designated FC.
Fixed costs include the cost of paying technical staff, security of premises, product advertising, heating, etc. Fixed costs also include depreciation charges (for the restoration of fixed capital). To define the concept of depreciation, it is necessary to classify the assets of an enterprise into fixed and working capital.
Fixed capital is capital that transfers its value to finished products in parts (the cost of a product includes only a small part of the cost of the equipment with which the production of this product is carried out), and the value expression of the means of labor is called the main production assets. The concept of fixed assets is broader, since they also include non-production assets that may be on the balance sheet of an enterprise, but their value is gradually lost (for example, a stadium).
The capital that transfers its value to the finished product during one turnover, spent on the purchase of raw materials and materials for each production cycle, is called working capital. Depreciation is the process of transferring the value of fixed assets to finished products in parts. In other words, equipment sooner or later wears out or becomes obsolete. Accordingly, it loses its usefulness. This also happens due to natural causes (use, temperature fluctuations, structural wear, etc.).
Depreciation deductions are made on a monthly basis based on the depreciation rates established by law and the balance sheet value of fixed assets. Depreciation rate - the ratio of the amount of annual depreciation deductions to the cost of fixed production assets, expressed as a percentage. The state establishes various depreciation rates for certain groups of fixed production assets.
Allocate following methods depreciation charges:
Linear (equal deductions over the entire life of the depreciable property);
Decreasing balance method (depreciation is charged from the entire amount only in the first year of equipment service, then accrual is made only from the untransferred (remaining) part of the cost);
Cumulative, by the sum of the numbers of years of useful life (a cumulative number is determined representing the sum of the numbers of years of useful life of the equipment, for example, if the equipment is depreciated over 6 years, then the cumulative number will be 6+5+4+3+2+1=21; then the price of the equipment is multiplied by the number of years of useful use and the resulting product is divided by the cumulative number, in our example, for the first year, depreciation deductions for equipment costing 100,000 rubles will be calculated as 100,000 x 6/21, depreciation deductions for the third year will be 100,000 x 4 / 21, respectively);
Proportional, proportional to output (determined by depreciation per unit of output, which is then multiplied by the volume of production).
With the rapid development of new technologies, the state can apply accelerated depreciation, which allows for more frequent replacement of equipment in enterprises. In addition, accelerated depreciation can be made as part of state support small business entities (depreciation deductions are not subject to income tax).
Variable costs are costs that are directly related to the volume of production. They are designated VC. Variable costs include the cost of raw materials and materials, piecework wages workers (it is calculated based on the volume of products produced by the employee), part of the cost of electricity (since electricity consumption depends on the intensity of the equipment) and other costs that depend on the volume of products produced.
The sum of fixed and variable costs is the gross cost. Sometimes they are called complete or general. They are referred to as TS. It is not difficult to imagine their dynamics. It is enough to raise the variable cost curve by the amount of fixed costs, as shown in Fig. one.
Rice. 1. Production costs.
The ordinate shows fixed, variable and gross costs, the abscissa shows the volume of output.
When analyzing gross costs, it is necessary to pay attention Special attention on their structure and its change. Comparison of gross costs with gross income is called gross performance analysis. However, for a more detailed analysis, it is necessary to determine the relationship between costs and output. For this, the concept of average costs is introduced.
Average costs and their dynamics
Average costs are the costs of producing and selling a unit of output.
Average total cost (average gross cost, sometimes referred to simply as average cost) is determined by dividing total cost by the quantity produced. They are designated ATS or simply AC.
Average variable costs are determined by dividing the variable costs by the amount of output produced.
They are designated AVC.
Average fixed costs are determined by dividing the fixed costs by the amount of output produced.
They are designated AFC.
Naturally, average total cost is the sum of average variable and average fixed costs.
Initially, the average cost is high, because starting a new production involves certain fixed costs, which are high per unit of output at the initial stage.
Gradually, average costs decrease. This is due to the increase in output. Accordingly, with an increase in the volume of production per unit of output, there are less and less fixed costs. In addition, the growth in production makes it possible to purchase necessary materials and tools in large quantities, and this, as you know, is much cheaper.
However, after a while, variable costs begin to rise. This is due to the decreasing ultimate performance production factors. The growth of variable costs causes the beginning of the growth of average costs.
However, the minimum average cost does not mean the maximum profit. At the same time, the analysis of the dynamics of average costs is of fundamental importance. It allows:
Determine the volume of production corresponding to the minimum cost per unit of output;
Compare the cost per unit of output with the price of a unit of output in the consumer market.
On fig. Figure 2 shows a variant of the so-called marginal firm: the price line touches the average cost curve at point B.
Rice. 2. Point of zero profit (B).
The point where the price line touches the average cost curve is usually called the zero profit point. The firm is able to cover the minimum costs per unit of output, but the possibilities for the development of the enterprise are extremely limited. From the point of view of economic theory, the firm does not care whether to stay in the industry, or leave it. This is due to the fact that at this point the owner of the enterprise receives a normal reward for the use of his own resources. From the point of view of economic theory, the normal profit, considered as the return on capital at the best alternative use of capital, is part of the costs. Therefore, the average cost curve also includes opportunity costs (it is easy to guess that under conditions of pure competition in the long run, entrepreneurs receive only the so-called normal profit, and economic profit absent). The analysis of average costs must be supplemented by the study of marginal costs.
The Concept of Marginal Cost and Marginal Revenue
Average costs characterize the costs per unit of output, gross costs characterize the costs in general, and marginal costs make it possible to explore the dynamics of gross costs, try to anticipate negative trends in the future, and ultimately draw a conclusion about the most optimal variant of the production program.
Marginal cost is the incremental cost incurred by producing an additional unit of output. In other words, marginal cost is the increase in gross cost per unit increase in production. Mathematically, we can define marginal cost as follows:
MC = ∆TC / ∆Q.
Marginal cost shows whether the production of an additional unit of output makes a profit or not. Consider the dynamics of marginal costs.
Initially, marginal costs are reduced, remaining below average. This is due to the reduction in unit costs due to the positive economies of scale. Then, just like averages, marginal costs begin to rise.
Obviously, the production of an additional unit of output also gives an increase in total income. To determine the increase in income due to an increase in production, the concept is used marginal income or marginal revenue.
Marginal revenue (MR) is the additional revenue generated by increasing production by one unit:
MR = ∆R / ∆Q,
where ΔR is the change in the company's income.
By subtracting marginal cost from marginal revenue, we obtain marginal profit (it can also be negative). It is obvious that the entrepreneur will increase the volume of production as long as he remains able to receive marginal profit, despite its decrease due to the law of diminishing returns.
Source - Golikov M.N. Microeconomics: teaching aid for universities. - Pskov: Publishing House of PSPU, 2005, 104 p.
Question 10. Types of production costs: fixed, variable and general, average and marginal costs.
Each firm in determining its strategy focuses on maximizing profits. At the same time, any production of goods or services is unthinkable without costs. The company incurs specific costs for the acquisition of factors of production. In doing so, it will seek to use such manufacturing process, at which a given volume of production will be provided at the lowest cost for the applied factors of production.
The cost of acquiring the factors of production used is called production costs. Costs are the expenditure of resources in their physical, in kind, and costs - the valuation of the costs incurred.
From the point of view of an individual entrepreneur (firm), there are individual production costs, representing the costs of a particular business entity. The costs incurred for the production of a certain volume of some product, from the point of view of the entire national economy, are public costs. In addition to the direct costs of producing a range of products, they include costs for environmental protection, training a skilled workforce, basic R&D, and other costs.
Distinguish between production costs and distribution costs. Production costs are the costs directly associated with the production of goods or services. Distribution costs are the costs associated with the sale of products. They are divided into incremental and net distribution costs. The former include the costs of bringing the manufactured products to the direct consumer (storage, packaging, packaging, transportation of products), which increase the final cost of the goods; the second - the costs associated with changing the form of value in the process of buying and selling, converting it from commodity to monetary (wages of sales workers, advertising costs, etc.), which do not form a new value and are deducted from the value of the goods.
fixed costsTFC These are costs that do not change with changes in the volume of production. The presence of such costs is explained by the very existence of some production factors, so they take place even when the company does not produce anything. On the graph, fixed costs are depicted by a horizontal line parallel to the x-axis (Fig. 1). Fixed costs include the cost of salaries of management personnel, rent payments, insurance premiums, deductions for depreciation of buildings and equipment.
Rice. 1. Fixed, variable and general costs.
variable costsTVC are costs that vary with the volume of production. These include the cost of wages, the purchase of raw materials, fuel, auxiliary materials, payment transport services, relevant social contributions, etc. Figure 1 shows that variable costs increase as output increases. However, one pattern can be traced here: at first, the growth of variable costs per unit of production growth proceeds at a slow pace (up to the fourth unit of production according to the schedule of Fig. 1), then they grow at an ever-increasing pace. This is where the law of diminishing returns comes into play.
The sum of fixed and variable costs at any given volume of production forms the total cost TC. The graph shows that in order to obtain a curve of total costs, the sum of fixed costs TFC must be added to the sum of variable costs TVC (Fig. 1).
An entrepreneur is interested not only in the total cost of goods or services produced by him, but also in average cost, i.e. firm's costs per unit of output. When determining the profitability or unprofitability of production, average costs are compared with the price.
Average costs are divided into average fixed, average variable and average total.
Average fixed costsA.F.C. - are calculated by dividing the total fixed costs by the number of products produced, i.e. AFC = TFC/Q. Since the value of fixed costs does not depend on the volume of production, the configuration of the AFC curve has a smooth downward character and indicates that with an increase in the volume of production, the amount of fixed costs falls on an ever-increasing number of units of output.
Rice. 2. Curves of average costs of the firm in the short run.
Average variable costsAVC - are calculated by dividing the total variable costs by the corresponding amount of output, i.e. AVC=TVC/Q. Figure 2 shows that average variable costs first decrease and then increase. This is also where the law of diminishing returns comes into play.
Average total costATC - are calculated by the formula ATC = TC/Q. In Figure 2, the average total cost curve is obtained by vertically adding the average constant AFC and the average variable cost AVC. The ATC and AVC curves are U-shaped. Both curves, by virtue of the law of diminishing returns, bend upwards at sufficiently high volumes of production. With an increase in the number of employed workers, when constant factors are unchanged, labor productivity begins to fall, causing a corresponding increase in average costs.
The category of variable costs is very important for understanding the behavior of a firm. marginal costMC is the additional cost associated with the production of each subsequent unit of output. Therefore, MC can be found by subtracting two adjacent gross costs. They can also be calculated using the formula MC = TC/Q, where Q = 1. If fixed costs do not change, then marginal costs are always marginal variable costs.
Marginal cost shows the change in costs associated with a decrease or increase in the volume of production Q. Therefore, comparing MC with marginal revenue (revenue from the sale of an additional unit of output) is very important for determining the behavior of a firm in market conditions.
Rice. 3. Relationship between productivity and costs
Figure 3 shows that between the dynamics of marginal product (marginal productivity) and marginal costs (as well as the average product and average variable costs) there is Feedback. As long as marginal (average) product rises, marginal (average variable) costs will fall and vice versa. At the points of maximum value of the marginal and average products, the value of marginal MC and average variable costs AVC will be minimal.
Consider the relationship between total TC, average AVC, and marginal MC costs. To do this, we supplement Fig. 2 with the marginal cost curve and combine it with Fig. 1 in one plane (Fig. 4). An analysis of the configuration of the curves allows us to draw the following conclusions that:
1) at the point a, where the marginal cost curve reaches its minimum, the total cost curve TC changes from convex to concave. This means that after the dot a with the same increments of the total product, the magnitude of changes in total costs will increase;
2) the marginal cost curve intersects the curves of average total and average variable costs at the points of their minimum values. If marginal cost is less than average total cost, the latter decrease (per unit of output). Hence, in Figure 4a, the average total cost will fall as long as the marginal cost curve passes below the average total cost curve. Average total cost will rise where the marginal cost curve is above the average total cost curve. The same can be said for the marginal and average variable cost curves MC and AVC. As for the curve of average fixed costs AFC, then there is no such dependence, because the curves of marginal and average fixed costs are not related to each other;
3) Marginal cost is initially lower than both average total and average costs. However, due to the operation of the law of diminishing returns, they exceed both of them as output increases. It becomes obvious that further expansion of production, increasing only labor costs, is economically unprofitable.
Fig.4. The relationship of total, average and marginal production costs.
Changes in resource prices and production technologies lead to a shift in cost curves. So, an increase in fixed costs will lead to an upward shift in the FC curve, and since fixed costs AFC are integral part common, then the curve of the latter will also shift upward. As for the curves of variables and marginal costs, the growth of fixed costs will not affect them in any way. An increase in variable costs (for example, a rise in the cost of labor) will cause an upward shift in the curves of average variables, total and marginal costs, but will not affect the position of the fixed cost curve.
For an entrepreneur, not only the total amount of costs of goods or services produced by him is of interest, but also the average costs, i.e. enterprise costs per unit of output. When determining the profitability or unprofitability of production, average costs are compared with the price.
Average cost( AC) calculated by dividing the cost by the volume of output produced. Thus, it is possible to calculate the average constants ( A.F.C.), mean variables ( AVC) and average gross ( ATC) costs:
A.F.C. = FC / Q;
AVC = VC / Q;
ATC = (FC + VC) / Q = + = A.F.C. + AVC.
As you can see, the average gross cost can be calculated in two ways: by dividing the gross cost by the volume of production and by summing the average fixed and average variable costs.
Average fixed costs A FC) characterize the costs of a fixed resource, with which a unit of output is produced on average.
The graph of average fixed costs (Fig. 10.3) is a hyperbole. As output increases, average fixed costs ( A.F.C.) are decreasing. This phenomenon serves as a powerful incentive for the enterprise to increase production.
Rice. 10.3. Average fixed cost curve ( A.F.C.)
Average variable cost( AVC) characterize the costs of a variable resource, with which a unit of output is produced on average.
The graph of average variable costs has a parabolic shape, shown in Fig. 10.4.
Rice. 10.4. Average variable cost curve A VC
Curve first AVC declines as production gradually reaches its optimal level of capacity utilization, and cost growth lags behind the rate of production growth. Then it is almost horizontal, since the output is close to the technological optimum. And finally, the curve begins to rise. Capacities are overwhelmed, and each additional unit of output comes at the price of a sharp increase in costs.
Average gross costs( ATC) characterize the costs of variable and fixed resources with which a unit of output is produced on average.
The graph of average gross costs (Fig. 10.5) has U-shaped form.
Rice. 10.5. Average gross cost curve ATC
Curve first ATC decreases under the influence of a decrease in both of its components ( A.F.C. and AVC), and then increases due to the rapid growth of the curve AVC.
The value of the average gross costs is of great interest to the entrepreneur. By comparing them with the price of a unit of output, he can estimate his profit from each release of the goods.
The ratio of the increase in variable costs to the increase in output caused by them is called company's marginal cost ( MC)
, where
MS- marginal cost;
∆VC- increase in variable costs;
∆Q- an increase in the volume of production.
Marginal cost can also be obtained by the difference between the variable costs of production n+ 1 units and variable production costs n product units:
MC= VCn + 1 – VCn.
Marginal cost has strategic importance, because they allow you to show the costs that the company will have to incur in the event of the production of another unit of output or save in the event of a reduction in production by one unit.
Marginal cost behavior ( MC) is similar to the behavior of average variable costs ( AVC). Curve Graph MC first decreases, and then begins to increase (Fig. 10.6).
Rice. 10.6. Marginal cost curve
As the technological optimum is approached, the cost of producing each additional unit falls, and after it is exceeded, they rise. In relation to marginal cost, these changes occur more abruptly than in the graph of average variable costs. This is explained by the fact that marginal cost is the ratio of the increase in variable costs not to the entire volume of production, but to the last unit of output.
And now let's show on the graph the average cost curves of the enterprise in the short run and their relationship with the marginal cost curve (Fig. 10.7).
Rice. 10.7. Enterprise cost curve family
Mutual arrangement of curves MC and AVC obeys the following regularity: the curve MC crosses the curve AVC at the point of minimum value of average variable costs. The reasons for this are as follows: while the cost of producing an additional unit of output is less than the average variable costs of the previous unit, the new values AVC will decrease due to the decrease MC. If the cost of an additional unit is greater than the average variable cost of production of the previous unit, the new values AVC will increase due to the growth MC. Therefore, if before the point of intersection of the curves of average variables and marginal costs ( MC = AVC) average variable costs fall, and after it grow, then a minimum will be reached at the point itself.
Similar reasoning in relation to the average gross costs suggests that the curve MC crosses the curve ATC also at the point of minimum value of average gross costs.
