Business Objectives 2 (costs)

Question 1

fixed costs

Answer 1

costs incurred by a firm that do not vary with the level of output

Question 2

variable costs

Answer 2

costs that vary with the level of output

Question 3

marginal

Answer 3

one more

Question 4

total cost

Answer 4

the sum of all costs that are incurred in producing a given level of output

Question 5

average total cost

Answer 5

total cost divided by the quantity produced often called average cost (AC), also called unit cost

Question 6

average fixed cost

Answer 6

fixed cost divided by the quantity produced

Question 7

average variable cost

Answer 7

variable cost divided by the quantity produced

Question 8

marginal cost

Answer 8

the cost of producing an additional unit of output

at first decreases as output increases

Question 9

Examples of variable cost

Answer 9

1. Employee wages when paid based on what they produce
2. Energy used in the production process
3. Commission paid to sales people based on how much they sell
4. Raw materials
5. Components

Question 10

Examples of fixed costs

Answer 10

1. Rent
2. Business rates
3. Salaries
4. Insurance
5. Advertising

Question 11

short run

Answer 11

the period in which at least one factor of production is fixed in supply

Question 12

variable factor of production

Answer 12

firms can use overtime to increase labour quickly

Question 13

long run

Answer 13

the period over which the firm is able to vary the inputs of all its factors of production

Question 14

fixed factor of production

Answer 14

machinery or buildings can take a while to commission, so capital is fixed in the short run, but variable in the long run

Question 15

law of diminishing returns

Answer 15

a law stating that if a firm increases its inputs of one factor of production while holding inputs of other factors of production fixed, eventually the firm will get diminishing marginal returns from the variable factor

Question 16

minimum efficient scale

Answer 16

the level of output at which long-run average cost stops falling as output increases

Question 17

where must the marginal cost curve corss the average cost curve

Answer 17

at the lowest point on the average cost curve because:

1. When the marginal cost is below the average cost curve, the cost of one more is bringing the average cost down
2. When the marginal cost is above the average cost curve, the cost of one more is bringing the average cost up
3. So when the marginal cost is equal to the average cost, the marginal cost is not changing the average cost – it must be equal

Question 18

eg of sunk cost

Answer 18

advertising

Question 19

What does the short run average cost curve show

Answer 19

the relationships between the volume of production and costs under the assumption that the quantity of capital and other inputs are fixed – to change the output, the firm has to vary the amount of labour

Question 20

Analysis Short run average cost curve

Answer 20

In the short run firms can move along their short run average cost curve (SRAC) as although the quantity of capital is fixed, labour is a variable factor of production

Question 21

Analysis long run average cost curve

Answer 21

In the long run the SRAC curve can be shifted due to changes in the amount of capital available. At first there are increasing returns to capital, so the SRAC curve is shifted down as output increases. However, eventually there are decreasing returns to capital so the SRAC curve shifts up as output increases. The locus of SRAC minima are taken forming the long run average cost (LRAC) curve.

Question 22

Evaluation, why the law of diminishing returns isnt important

Answer 22

1. Small firms may not need to consider it

A firm with a small number of staff or a small amount of capital may only experience increasing returns to scale

Question 23

Evaluation, why the law of diminishing returns is important

Answer 23

1. No infinite profits

The law of diminishing returns explains why firms cannot make infinite profits

2. Explains why profit maximisation exists

The law of diminishing returns results in there being a level of production at which profits are maximised – profit maximisation