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Production and Cost Analysis II


Learning Objectives

AFTER READING THIS CHAPTER, YOU SHOULD BE ABLE TO:

  1. Distinguish technical efficiency from economic efficiency.


  2. Explain how economies and diseconomies of scale influence the shape of long-run cost curves.


  3. State the envelope relationship between short-run cost curves and long-run cost curves.


  4. Explain the role of the entrepreneur in translating cost of production to supply.


  5. Discuss some of the problems of using cost analysis in the real world.

Chapter Summary

In the long run a firm has the ability to change its scale of operation. Nothing is fixed, so there are no fixed costs; all costs are variable costs. Economies and diseconomies of scale determine the shape of the long-run average cost curve. If economies of scale are experienced then larger scales of operation result in lower average costs and the long-run average cost curve slopes downward. Diseconomies of scale exist when a firm gets larger and larger and experiences higher average costs of production. This occurs when the long-run average cost curve slopes upward.

This chapter discusses the envelope relationship that exists between short-run and long-run average costs. Because of this envelope relationship, long-run costs will always be less than or equal to short-run costs at the same level of output.

This chapter concludes with a look at the role of the entrepreneur in translating costs of production to supply as well as some of the problems of using cost analysis in the real world.

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