Cost
fn
Cost fn
• Pdn fn functional relationship between input
and output q=f( L.K.N,e)
• Cost fn. Shows the relationship b/w output
and cost of pdn
• Cost fun is derived from
• 1)Pdn fn 2) prices of factors of pdn
• We derive the cost fn from pdn fn
Cost fn
• Cost of pdn 1) explicit cost
• 2) implicit cost
• Explicit cost – out of pocket expenses
• Incl. cash payments recorded in book of
accounts
• Eg rent, wages, interest paid etc
Implicit cost
• No cash payment – not recorded in book of
acct
• Reward of self owned factors of pdn
• Also called imputed cost eg own building
• Implicit cost is estimated on the basis of
opportunity cost
• Opportunity cost is the value of the best
alternative that is rejected when a decision is
made.
• It can also be defined as the cost of giving up
something in order to get something else.
•
Opportunity cost
• Opportunity cost of any good is the next best
alternative good that is sacrificed.
• Opportunity cost car is the number of
scooters sacrificed for it
• Next best alternative forgone
tc
• TC= total of explicit cost +implicit cost
• Accountant explicit cost only
• Profit= TR-TC ( total explicit cost +implicit cost )
• Eg tuition centre
• Fees 3 L
• Internet charge 3000
• Electricity-5000
• Books 10000
• Others 2000 total = 20 K
• Accountant 3L-20K=2.8 L
Economist
• TC= 20 K+ own house imputed rent 20k +
opportunity cost of salary forgone by me that
is 1L
• Profit = 3L- (20k +1L+20K)=1.6 L
Fixed factors
• Fixed factors are those magnitude that remain
constant during SR
• period of time in which at least one input, or
cost factor, is fixed while others are variable
• In LR all factors are variable
• In SR TC = TVC+TFC
• Total fixed cost (TFC) is the sum of all consistent,
non-variable expenses a company must pay to
keep operations running, regardless of
production levels
• TFC cost is fixed during SR eg rent interest,
depreciation 10 percent
• Fixed cost is independent of the level of
output
TFC
• Is a horizontal straight line parallel to x axis
• It is also zero sloped
• It has non zero vertical +ve VI value starts
from Y axis
• MFC is zero
• Fc is called overhead expense or sunk cost
supplementary cost etc
Sunk cost
• It cannot be recouped
• 100 cr in ship due to some reason you sold it
by 70 cre
• 30 crore is sunk cost
TVC
• Cost which varies with level of output
• When Q=0 TVC=0
• When Q increases TVC also increases
• It is a function of the qty of out-put produced
• Incl
• 1) raw material cost
• 2) wages of temp staff
• Routine maintenance expense eg engine oil of car
TC
• Tc=TVC+TFC
• So change in TC is due to change in TVC
• it is change in TVC that being change in TC
• ˄TVC= ˄TC
• Difference b/w TC and TVC is TFC that diff
rence remain constant
TC
• Q=o TVC=0
• Therefore TC=TFC
• TVC is also called operating cost/direct cost/
prime cost
TVC
• Concave -convex shaped
• Reverse image of TP curve
• Q=0 TVC=0
• So it starts from the origin
• TVC is dual of TP /derived from TP
• Slope of TVC is MC
TC = TVC+TFC
TC
• Graphically we obtain TC curve through the
vertical summation of TFC and TVC
• Q=0 TVC=0
• TC=0+TFC
• Both TFC and TC have a common VI value
• Gap between TVC and TC curve is TFC
• The vertical gap between TC and TFC =TVC
vertical gap increases with increase in output
• TC is also concave convex shaped
AFC
• shows FC per unit of output
• AFC=TFC/Q
• AFCxQ= TFC
• Eg TFC 5000
• Cost of 1 unit 5000/1= 5000
• nd
2 unit 5000/2=2500
• 4th unit 5000/4=1250 …….
AFC Properties
• Never become zero
• Never touches the base line (asymptotic to
both the axis )
• AFC is represented by the slope of the ray
connecting a point on TFC curve and origin
• AFC is a rectangular hyperbola
AVC
• Variable cost per unit of output
• AVC=TVC/Q
• Slope of the ray is equal to AVC
• AVC is the slope of the ray connecting a point
on TVC curve and origin
• During the initial stage slope of the ray falls
then increase
• Avc is U shaped
Avc
AC
• cost per unit of output
• AC=TC/Q
• TC = TFC+AVC
• AC = TFC+TVC/Q
• AC= TFC/Q + TVC/Q split and divide
• therefore AC= AFC+AVC
AC
• Graphically we derive AC curve through the
vertical summation
• vertical gap between AC and AVC is AFC
• When Q increases AFC continuously decrease
therefore when Q increases vertical gap
between AC and AVC curves goes on
increasing
• AC curve lies above AVC curve
• AC curve is U shaped
MC
• Addition to TC when Q is increased by one
unit
• Q TC
• 1 500
• 2 550 mc + 50
• 3 625 mc 75
• 4 700 mc 75
MC
• Mc is the slope of the TC curve
• MC=˄ TC/ ˄Q
• MCn= TCn-TCn-1
• MC3=TC3-Tc2
• MC3= 625-550=75
MC
• Slope decrease in concave
• Corresponding to concave segments of Tc,
MC is negatively sloped
• At the level of Q correspond to the point of
inflexion of MC zero sloped
• Convex segment of TC curve
• MC curve positively sloped
