Microeconomics, Module 6: Production and Costs

Microeconomics module 6: Required reading from tenth edition: Landsburg Chapter 6

(The attached PDF file has better formatting.)

Module 6 covers two factors that affect costs: the available technology and input prices.

Read Section 6.1: The quantity of fixed inputs cannot be changed during the time period; the quantity of variable inputs can be changed. In the short run, some inputs are fixed and some are variable.

●    Total, average, and marginal product curves describe the relation between the amount of a variable input and the level of output, assuming other inputs are fixed.
●    Total, average, average variable, and marginal cost curves describe the relation between output and cost in the short run and can be derived from the product curves.
●    The U-shape of short run average, average variable, and marginal cost curves reflects the diminishing marginal returns to variable inputs.

To avoid calculus, the textbook relates marginal cost to average cost graphically: “the marginal product curve must cross the average product curve right at the point where the average product curve turns around, which is to say right at the top of the inverted U.” Final exam problems may give cost functions and require you to take derivatives. For grasping the intuition, know the shapes of the cost curves and exhibit 6-5.
    
Read Section 6.2: In the long run, all inputs are variable.

●    An isoquant shows the combinations of labor and capital needed to produce a given level of output.
●    The slope of an isoquant is the marginal rate of technical substitution of labor for capital, or the amount of capital that can replace a unit of labor while holding output level.

●    An isocost shows the combinations of labor and capital that can be used at a given cost.
●    The slope of an isocost is the relative price of labor in terms of capital.

●    The expansion path is the set of tangencies between isoquants and isocosts.
●    This path is the cost-efficient combinations of labor and capital in the long run.
●    On the expansion path, the marginal rate of technical substitution of labor for capital is the relative price of labor in terms of capital.

●    Long-run total, average, and marginal cost curves describe the relation between output and cost in the long-run and can be derived from the expansion path.
●    If factor prices are fixed, the long-run average cost curve is
    •    downward sloping when there are increasing returns to scale;
    •    horizontal when there are constant returns to scale;
    •    upward sloping when there are decreasing returns to scale.

Read Section 6.3: Short run total cost is always at least as great as long-run total cost, and every short run total cost curve is tangent to the long-run total cost curve.

The final exam does not test numerical problems from this section. Understand the concepts of isoquant and isocost curves. We use the total, average, and marginal cost curves to derive equilibrium prices and quantities in competitive and noncompetitive industries (Modules 7, 8, 11, and 12). For those topics, the final exam has numerical problems, based on the practice problems and homework assignments for those modules.

Answer end of chapter Review Questions R2, R3, R4, R5, R6, R7, R13, R15. The relation of marginal cost curves and average cost curves is used throughout the text.

Solve end of chapter Numerical Exercises N1, N2, N3, N4, N5, N6, N7, N8, N9, N10, .

Review exercise N1. Barro’s macroeconomic textbook uses the more general production function Lα K(1–α). For this exercise, α = ½.

Review exercise N2. The final exam may use a value for α between 0 and 1.

Review end of chapter problems 4 and 13. The final exam problems for this course use continuous production schedules, but the concepts are the same.