The Production Function
Q = flow of output, L = flow of labour services,
K = flow of capital services, changes in technology = changes in f
TR = total revenue, TC = total cost
Total, Average, and Marginal
Total Product (TP or q): total amount
produced by a firm during same time
Average Product (AP): AP= TP/L
Marginal Product (MP): MP=dTP/dL
Law of diminishing returns: if
of a variable factor are applied to a
given quantity of fixed factors, the
variable factor’s marginal product
will eventually decrease
Where AP reaches its maximum,
The average curve slopes upward as
long as the marginal curve is above it.
For example, if MP> AP, AP is
If MP< AP, AP is falling.
Total Cost (TC): TFC+TVC
Total Fixed Cost (TFC): all costs of production that do not vary with level of output
Total Variable Cost (TVC): total costs of production that vary directly with level of output
Average Total Cost (ATC): ATC=TC/Q or ATC=AFC+AVC
Average Fixed Cost (AFC): TFC/Q
Average Variable Cost (AVC): TVC/Q Marginal Cost (MC): MC=dTC/dQ (MC=firm's supply curve)
AVC and MC curves are both U-shaped because:
Eventually diminishing AP of the variable factor implies eventually increasing AVC.
Eventually diminishing MP of the variable factor implies eventually increasing MC.
ATC curve is U-shaped because it only begins to rise when the effect of the increasing AVC