Deck 12: Production and Cost Analysis II

Question 1

Are diminishing marginal productivity and diseconomies of scale the same thing? Explain why or why not.

Answer 1

The two are not the same. Diminishing marginal productivity refers to the decline in marginal product that occurs when adding increasing amounts of a variable input to a fixed input. It is a short run concept. Diseconomies of scale refer to the decrease in productivity that occurs when there are equal increases of all inputs. It is a long run concept.

Question 2

Demonstrate graphically and explain verbally the concept of minimum efficient level of production.

Answer 2

The minimum efficient level of production is the amount of output that spreads setup costs out sufficiently for a firm to undertake production profitably. In terms of our cost curve diagrams, it is the level of output where all economies of scale are exhausted. This is illustrated as output level Q* in the diagram below.

Question 3

What is an entrepreneur and what are the things that the entrepreneur must do to translate the cost of production into supply? Why is there a scarcity of entrepreneurial talent?

Answer 3

An entrepreneur is an individual with creativity and organizational skills who believes that she sees an opportunity to sell an item at a price higher than the average cost of producing it. To move from cost to supply entrepreneurs must convince individuals who own factors of production that they want to provide the resources needed to produce a good. They must also decide on many dimensions of production. Not only must entrepreneurs decide how much to produce, they must decide on the quality of the product, methods of delivery, size of inventory, etc. Good entrepreneurs must take all relevant margins into account. The entrepreneurial role in the real world is much more challenging and complex than it seems in the basic model where the level of output is the only dimension over which variation can be made.

Question 4

The SRATC and LRATC curves are both typically U-shaped for different reasons. Explain why.

Question 5

What cost considerations other than "how much to produce" do real world firms face? Give some examples.

Question 6

What concept is important in determining the shape of short run cost curves (marginal cost, average cost) but plays no role in determining the shape of long-run cost curves? What are the most important factors in determining the shape of the long-run cost curves? Explain.

Question 7

Suppose you can produce 50 gourmet pizzas using either one worker and one oven or two workers and one oven. Which input combination is technically efficient?

Question 8

How does the envelope relationship relate short run average cost and long run average cost?

Question 9

The Edge Corporation manufactures gas powered water pumps. Each pump can be produced in two hours using either of two production processes: with one worker and 10 tools or with 2 workers and 6 tools. Each worker earns $12.00 per hour and each tool has an implicit rental rate of $1.50 per hour. Could both combinations of inputs be technically efficient? What is the economically efficient input combination? Explain.

Question 10

If all production relationships were technical relationships, there wouldn't be diminishing marginal productivity. Evaluate this statement.

Question 11

In the simple microeconomic models, the only dimension over which variation takes place is level of output (TC, AC, and MC curves, for example, relate these costs to the level of output only). Are there other important dimensions over which entrepreneurs may chose in the real world? Give some examples of other dimensions over which important choices may be made.

Question 12

What are economies of scale? How do economies and diseconomies of scale influence the shape of the long run cost curves? How do economies of scale relate to indivisible setup costs? What are diseconomies of scale and how do they arise?

Question 13

Suppose you can manufacture a Blu-ray player using 5 people and 1 machine or using 1 person and 3 machines. Is it possible that both input combinations are technically efficient? What information would be needed to determine which input combination is economically efficient?

Question 14

As an employee of the Grelb Corporation (a manufacturer of gas powered generators) you have been asked to determine the nature of their long-run cost structure. Some cost data has been collected for you and appears in the table below. (a) Fill in the missing values in the table.
(b) Determine the range of output levels over which there exists economies and diseconomies of scale.
(c) Graph the firm's average total cost curve and
(d) Describe how your answer to part (b) above relates to the shape of this curve.

Question 15

What is an indivisible setup cost? Give an example.

Question 16

Demonstrate graphically the effects of returns to scale on the Long Run Average Total Cost (LRATC) curve and explain verbally the concepts of economies of scale, constant return to scale, and diseconomies of scale.

Question 17

In the basic model, cost changes only as output changes. In the real world, at least four other factors affect real-world costs. They are: (1) economies of scope, (2) learning by doing and technological change, (3) multidimensionality, and (4) unmeasured costs. Explain how each of these influences cost analysis.

Question 18

Why is it that a technically efficient method of producing may not be an economically efficient method of production?

Question 19

Explain the concept of economies of scope. Give an example.

Question 20

What is the envelope relationship?

Question 21

In this problem you will demonstrate your understanding of the relationship between short-run and long run average cost curves.
(a) Draw an example of a long-run average cost curve. Find the minimum point of the long run average cost curve and label that point "A" for reference. What is the slope of the LRATC curve to the left of point A? Why does it have this slope? What is the slope of the LRATC curve to the right of point A? Why does it have this slope?
(b) Choose a point to the left of point A on the LRATC curve, and label it point B for reference. Choose a point to the right of point A on the LRATC curve. Label it point C for reference. Draw the SRATC curve associated with point A and label it SRATCa. Is point A the minimum point of SRATCa? Why does SRATCa have the slope that it does at points to the left and right of point A?
(c) Draw SRATC curves associated with points B and C and label them SRATCb and SRATCc. Are points B and C minimum points for SRATCb and SRATCc? Explain.

Question 22

You have decided to produce and market a new basketball sneaker. What decisions do you need to make besides how many shoes to produce?

Question 23

Consider the following Long Run Average Total Cost (LRATC) curve diagram: How will this diagram change (if at all) if the firm's workers "learn by doing"? Illustrate your answer with a diagram.