Ec100
Week 7
Question 1
If a firm produces 9 units its total costs are
£52. If it produces a 10th unit, its total cost rises
to £60. What is the average cost if the firm
produces 10 units?
6
AC = TC/Y
Question 2
If a firm produces 9 units its total costs are
£52. If it produces a 10th unit, its total cost rises
to £60. What is the marginal cost of the 10th
unit?
8
MC = The extra cost associated with producing one
more unit of output
Question 3
If marginal costs are always below average costs,
does the firm have?
IRS
• If MC<AC then AC must be falling.
• If MC>AC then AC must be increasing.
Question 3
• Here, MC<AC
• So AC is falling as Y increases
• This means total cost (=AC*Y) is increasing less
quickly than Y
• This implies IRS (from the definition in lecture)
Falling AC means IRS
Constant AC means CRS
Increasing AC means DRS
Question 4
A firm with decreasing returns to scale increases
its output by 10%. What happens to total costs?
They go up by more than 10%
Straight from the definition in lecture.
Question 5
Suppose I produce a magazine and sell it. Do you
think I will have:
Increasing Returns to Scale
•
•
•
•
Probably costly to produce 1 magazine
But producing the second is much cheaper…
Specialization, fixed costs…
AC is falling…
Question 6
Suppose all in an industry firms have U-shaped average
cost curves which have a minimum if the firms produce
10 units when the average cost is £15. What is the
marginal cost if the firm produces 10 units?
Exactly £15
• At minimum of AC, MC=AC. Why?
• Again, think of footballer to draw the graph…
Question 7
Suppose all firms have U-shaped average cost curves which have
a minimum if the firms produce 10 units when the average cost
is £15. If there is free entry into the industry, what will be the
price in the market?
Exactly £15
Price will be bid down to the minimum AC
Question 8
Suppose all firms have U-shaped average cost curves which have
a minimum if the firms produce 10 units when the average cost
is £15. If, when the market clears, total demand is 120 units, how
many firms will there be in the industry?
12
• Each firm produce 10 units
• So number of firms = 120/10 = 12
Question 9
If a firm has increasing returns to scale and produces the level of
output where marginal costs equal price. Tick all the answers
that are true
The firm is making losses but might make profits by increasing
output
•
•
•
•
IRS: MC<AC
Here, P=MC<AC
Profits = TR – TC = Y*P – Y*AC = Y(P-AC)
Need price to be at least equal to AC to make profits
• Because MC & AC are falling, at higher output price might be
above AC (e.g. if a constant price, see graph)
Question 10
A firm with decreasing returns to scale increases all
its inputs by 10%. What happens to its output?
Goes up by less than 10%
• From definition given in the lecture
• See “Economies of Scale Viewed Through the
Production Function” slide