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CONFIRMING PAGES

CHAPTER 20
387
The Costs of Production
$70 ( $340 $270); and so forth. The MC for each of same price, the marginal cost of each extra unit of output
the 10 units of output is shown in column 8. will fall as long as the marginal product of each additional
MC can also be calculated from the total-variable-cost worker is rising. This is true because marginal cost is the
column, because the only difference between total cost (constant) cost of an extra worker divided by his or her
and total variable cost is the constant amount of fixed costs marginal product. Therefore, in Table 20.1, suppose that
($100). Thus, the change in total cost and the change in each worker can be hired for $10. Because the first work-
total variable cost associated with each additional unit of er’s marginal product is 10 units of output, and hiring this
output are always the same. worker increases the firm’s costs by $10, the marginal cost
of each of these 10 extra units of output is $1 ( $10 10
units). The second worker also increases costs by $10, but
Marginal Decisions Marginal costs are costs the the marginal product is 15, so the marginal cost of each of
firm can control directly and immediately. Specifically, these 15 extra units of output is $.67 ( $10 15 units).
MC designates all the cost incurred in producing the last Similarly, the MC of each of the 20 extra units of output
unit of output. Thus, it also designates the cost that can be contributed by the third worker is $.50 ( $10 20 units).
“saved” by not producing that last unit. To generalize, as long as marginal product is rising, mar-
Average-cost figures do not provide this ginal cost will fall.
information. For example, suppose the But with the fourth worker diminishing returns set in
firm is undecided whether to produce 3 or and marginal cost begins to rise. For the fourth worker,
4 units of output. At 4 units Table 20.2 in- marginal cost is $.67 ( $10 15 units); for the fifth worker,
W 20.3 dicates that ATC is $100. But the firm does MC is $1 ($10 10 units); for the sixth, MC is $2 ( $10 5
Per-unit cost not increase its total costs by $100 by pro- units); and so on. If the price (cost) of the variable resource
ducing the fourth unit, nor does it save remains constant, increasing marginal returns will be
$100 by not producing that unit. Rather, the change in reflected in a declining marginal cost, and diminishing
costs involved here is only $60, as the MC column in marginal returns in a rising marginal cost. The MC curve
Table 20.2 reveals. is a mirror reflection of the marginal-product curve. As
A firm’s decisions as to what output level to produce you can see in Figure 20.6, when marginal product is ris-
are typically marginal decisions, that is, decisions to pro- ing, marginal cost is necessarily falling. When marginal
duce a few more or a few less units. Marginal cost is the product is at its maximum, marginal cost is at its
change in costs when 1 more or 1 less unit of output is minimum. And when marginal product is falling, marginal
produced. When coupled with marginal revenue (which, cost is rising.
as you will see in Chapter 21, indicates the change in rev-
enue from 1 more or 1 less unit of output), marginal cost Relation of MC to AVC and ATC Figure
allows a firm to determine if it is profitable to expand or 20.5 shows that the marginal-cost curve MC intersects
contract its production. The analysis in the next three both the AVC and the ATC curves at their minimum
chapters focuses on those marginal calculations.
points. As noted earlier, this marginal-average relation-
ship is a mathematical necessity, which a simple illustra-
Graphical Portrayal Marginal cost is shown tion will reveal. Suppose a baseball pitcher has allowed
graphically in Figure 20.5 (Key Graph). his opponents an average of 3 runs per game in the first
Marginal cost at first declines sharply, three games he has pitched. Now, whether his average
reaches a minimum, and then rises rather falls or rises as a result of pitching a fourth (marginal)
abruptly. This reflects the fact that variable game will depend on whether the additional runs he al-
costs, and therefore total cost, increase first lows in that extra game are fewer or more than his cur-
G 20.1 by decreasing amounts and then by in- rent 3-run average. If in the fourth game he allows fewer
creasing amounts (see columns 3 and 4,
Production than 3 runs, for example, 1, his total runs will rise from 9
and costs Table 20.2). 1 _
to 10 and his average will fall from 3 to 2 ( 10 4). Con-
2
versely, if in the fourth game he allows more than 3 runs,
MC and Marginal Product The marginal-cost say, 7, his total will increase from 9 to 16 and his average
curve’s shape is a consequence of the law of diminishing will rise from 3 to 4 ( 16 4).
returns. Looking back at Table 20.1, we can see the rela- So it is with costs. When the amount (the marginal
tionship between marginal product and marginal cost. If cost) added to total cost is less than the current average
all units of a variable resource (here labor) are hired at the total cost, ATC will fall. Conversely, when the marginal

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