8.1

• Inputs (Factors of Production):

  • Inputs are goods or services used in the production of other goods or services. Examples include labor, capital, land, raw materials, etc.
  • A firm's goal is to combine these inputs in a way that produces the most output at the lowest cost.
• • The production function shows the relationship between the quantities of inputs used and the amount of output produced, given current technology.
  • The production function summarizes technically efficient ways to combine inputs to produce output, meaning there is no way to produce the same output using fewer inputs.
• Technical Efficiency:

  • A firm is technically efficient if it cannot produce the same output using less of one input without using more of another input.
  • Example: A firm using 2 workers and 1 machine to produce mobile phones is technically efficient if no other combination of inputs (using fewer workers or machines) produces the same output.
• Short Run:

  • In the short run, at least one input (e.g., capital) is fixed. The firm can adjust variable inputs (e.g., labor), but cannot quickly change its fixed inputs.
  • Fixed Factor: An input that cannot be increased or decreased in a short period of time (e.g., machinery or buildings).
  • Example: A car manufacturer can hire more workers but cannot quickly build a new factory to increase production.
• Long Run:

  • In the long run, all inputs are variable, meaning the firm can change both fixed and variable factors of production.
  • Variable Factor: Inputs that can be adjusted in both the short and long run (e.g., labor, raw materials).
  • Example: In the long run, the car manufacturer can build additional factories to increase its production capacity.
• Production Decisions:

  • Short-run decisions focus on adjusting variable factors to meet demand, while long-run decisions involve planning for changes to both fixed and variable inputs to adapt to future market conditions.
• theory of supply diagram:

  • technology and costs of hiring factors of production
  • total and marginal cost curves
  • firm chooses output level
  • demand curve
  • decision to produce or shut down
• Technology and Costs of Hiring Factors of Production: STEP 1 in theory of supply diagram

  • The diagram begins with a firm's access to technology and its costs of hiring factors of production (labor, capital, raw materials).
  • These factors influence the cost curves (both short-run and long-run) that the firm uses to make decisions.
• Total and Marginal Cost Curves: Step two in the theory of supply diagram

  • Total Cost Curve: Shows the total cost of producing different levels of output.
  • Marginal Cost Curve: Shows the additional cost of producing one more unit of output.
  • In the short run, costs may increase more rapidly as the firm cannot expand fixed inputs, leading to inefficiencies.
  • In the long run, the firm has more flexibility and can reduce costs by adjusting all inputs.
• Firm Chooses Output Level: Step 3 in theory of supply diagram

  • The firm selects the output level that minimizes costs and maximizes profit, balancing its cost structure and the demand curve it faces.
  • Marginal Revenue Curve: Shows the additional revenue generated by producing and selling one more unit of output.
  • The firm maximizes profit where marginal revenue equals marginal cost.
• Demand Curve: Step 4 in theory of supply diagram

  • The firm faces a demand curve, which shows the prices at which it can sell different quantities of its product.
  • The firm adjusts its output based on the price it can sell at, as well as its costs.
• Decision to Produce or Shut Down: Step 5 in the theory of supply diagram

  • In the short run, the firm may decide whether to produce at all. If the firm cannot cover its variable costs, it may choose to stop producing.
  • In the long run, the firm will evaluate whether to continue operating or exit the market. If the firm cannot cover its total costs (including fixed costs), it may shut down.
• • The firm’s output decisions depend on the relationship between its cost curves, the revenue it can earn, and the prices it faces in the market.
• • The firm will always aim to minimize costs and maximize profit by choosing the most efficient combination of inputs and adjusting production to match demand.