Production and productivity
- Production turns inputs (factors of production) into outputs. Productivity is output per worker (or per input) per period of time.
- Higher productivity lowers costs per unit and makes firms more competitive.
Costs, revenue and profit
- Fixed costs don't change with output (such as rent). Variable costs change with output (such as raw materials).
- Total cost = fixed costs + variable costs. Average cost = total cost ÷ output.
- Total revenue = price × quantity sold. Average revenue = total revenue ÷ quantity.
- Profit = total revenue − total cost. A loss is made when costs are greater than revenue.
Economies of scale
- Economies of scale are the cost advantages of growing larger: average costs fall as output rises.
- Examples: bulk buying (discounts for large orders), technical (using bigger, more efficient machines), financial (cheaper borrowing for large firms) and managerial (specialist managers).
- Diseconomies of scale: average costs rise when a firm grows too big, because of poor communication, coordination problems and low worker motivation.
Worked example
- A firm has fixed costs of £2,000 and variable costs of £3 per unit. It makes 1,000 units and sells them at £6 each. Total cost = 2,000 + 3,000 = £5,000. Revenue = £6,000. Profit = £1,000. Average cost = £5 per unit.
Key terms
- Fixed costs
- Costs that don't change with output.
- Variable costs
- Costs that change with output.
- Total cost
- Fixed costs plus variable costs.
- Average cost
- Total cost divided by output.
- Total revenue
- Price multiplied by quantity sold.
- Profit
- Total revenue minus total cost.
- Economies of scale
- Falling average costs as a firm grows.
- Diseconomies of scale
- Rising average costs when a firm grows too big.
Practise Production, costs, revenue and profit: 10 questions