1009080706050

A+

A

A-

B+

BB-

C+

C

C-D

D+

Point Score (%) Letter Grade 144 A+ 122-134 A  118-121 A- 114-117 B+ 102-113 B 96-101 B-93-95  C+84-92  C80-83  C- 76-79 D+Below 76  D

D+

The Cost Curves of Parson’s

Mill

Timothy Lewontin, Parsons’ Mill

Fixed Inputs:

Fundamental Assumption: Parsons’ goal is to maximize profits.

Short-run: the time period over which some inputs are fixed.

Economic research on non-profit institutions changes the assumption, e.g., claims that its only goal is “getting

getting mines out of the ground, now.”

Timothy had no contract and Parsons had no obligation to him beyond day to day—he was hired “at will,” allowing Parsons to fire him at anytime, without need for explanation. And, he did, six months after Timothy started working there. A year later, Parsons’ closed the mill, auctioned off the equipment, and dismantled the mill.

mill and equipment (i.e., K)

Variable Inputs: Labor (Timothy), fuel and wood

Parson’s Mill Single Production Line

ripsaw

boa

rds

Trim Saw

bla

nk

s Substantial Looking Machine

lon

g d

owel

s

shor

t d

owel

s

Inspected & bundled into packets of 50 dowels

To my horror and amazement, the [substantial looking machine] started to deposit [dowels] on my supply cart… I struggled valiantly to keep up. But no matter how fast I worked, Craig could feed them through faster. When he'd gained a sufficient lead on my supply cart, he shut the machine down…

Labor Output

(workers per day)

(bundles of per day)

0 1 2 3 4 5 6 7 8 9

100130150 160165 165

0 10 30 60

0

20

40

60

80

100

120

140

160

180

0 1 2 3 4 5 6 7 8 9

Labor (workers per day)

Parsons Mill’s Production Function

Labor Output Marginal Product

(workers per day)

(bundles per day)

(bundles per

worker)

0 1 2 3 4 5 6 7 8 9

100130150 160165 165

0 10 30 60

10

3020

40302010 5 0

The Law of Diminishing Marginal Returns

Marginal product: the additional output from one more unit of the variable input , e.g., the additionaldowels from one more laborer.

The Law of Diminishing Marginal Returns: as you add more and more labor (variable input) to the mill and machinery (fixed inputs), the marginal product of labor (variable input) must eventually decrease.

0

20

40

60

80

100

120

140

160

180

0 1 2 3 4 5 6 7 8 9

Labor (workers per day)

Ou

tpu

t (b

un

dle

s p

er d

ay

)Parsons Mill’s Production Function

Output is increasing at an increasing rate due to specialization of labor (MPL)

Output is increasing at an decreasing rate because of the limited number of machines (MPL)

(MPL=9)=0, i.e., nothing left to do

Joseph Glidden Patent Drawing

Great Plains of the 1870s—(1) conflict between farmers &

cattle ranchers over stray cattle, (2) wood was scarce.

smooth wireDe Kalb County Fair of 1873

wooden rail with spikes

had a better idea

Barb Fence Company, 1874

Total Revenue

Raw Materials (wire)

Forgone Salary

Forgone Rent

Rental Value of Grinder

$1000

$500

$100

$24

$1

Glidden initially made his barbed wire using a coffee bean grinder in his house

economic π = total revenue − explicit cost − implicit cost

accounting π = (total revenue − explicit cost)

out-of-pocket expenses

= $1000 − $500= $500

costs that do not require an outlay of $

economic π = $1000 − ($500) − ($100 + $24 + $1) = $375 encouraged entry of competitors

Wages of Labor = $50 per workday

The Cost Curves of Parsons’ Mill

Assumptions

Rental Value of Mill and Equipment = $125 per day

variable input

Total Fixed Costs (TFC) do not vary with the level of outputfixed inputs

Total Variable Costs (TVC) depend on the level of output

(workers per day)

(bundles per day) ($ per day) ($ per day) ($ per day)

($ per bundle)

Labor OutputTotal

Fixed Cost

Total Variable

Cost Total CostAverage

Total Cost

0 1 2 3 4 5 6 7 8 9

100130150 160165 165

0 10 30 60

125125125125125125125125125125

050

100150200250300350400450

125175225275325375425475525575

17.57.504.583.25 2.88 2.83 2.97 3.183.48

Marginal and Average Cost Curves

0.00.81.62.43.24.04.85.66.47.28.08.89.6

10.411.212.0

0 20 40 60 80 100 120 140 160 180Output (bundles of dowels per day)

Co

st

($ p

er

bu

nd

le o

f d

ow

els

)

7.5

30

ATC

Marginal and Average Cost Curves

0.00.81.62.43.24.04.85.66.47.28.08.89.6

10.411.212.0

0 20 40 60 80 100 120 140 160 180Output (bundles of dowels per day)

Co

st

($ p

er

bu

nd

le o

f d

ow

els

)

7.5

30

ATC

Labor Output Total CostMarginal

CostMidpoint of Output

(workers per day)

(bundles of per day) ($ per day)

($ per bundle)

(bundles of per day)

0 0 125

1 10 175

2 30 225

3 60 275

4 100 325

5 130 3756 150 425

7 160 475

8 165 525

5

2.5

1.67

1.25

52.5

1.67

10

5

20

45

80

115

140155

162.5

Marginal cost is the cost of producing an additional unit of output

Marginal and Average Cost Curves

0.00.81.62.43.24.04.85.66.47.28.08.89.6

10.411.212.0

0 20 40 60 80 100 120 140 160 180Output (bundles of dowels per day)

Co

st

($ p

er

bu

nd

le o

f d

ow

els

)

ATC

5

5

MC

Marginal and Average Cost Curves

0.00.81.62.43.24.04.85.66.47.28.08.89.6

10.411.212.0

0 20 40 60 80 100 120 140 160 180Output (bundles of dowels per day)

Co

st

($ p

er b

un

dle

of

do

wel

s)

ATC

5

5

MC

0.00.81.62.43.24.04.85.66.47.28.08.89.6

10.411.212.0

0 20 40 60 80 100 120 140 160 180Output (bundles of dowels per day)

Co

st

($ p

er b

un

dle

of

do

wel

s)

ATC

MC

AVCATC

MC

ATC is high because fixed costs are spread over a small number of dowels

MC is high because MPLabor is low

ATC>MC, ATC must

ATC

MC

ATC<MC, ATC must

ATC= min where

MC=ATC