Producer Behaviour and Supply
What this domain tests
This domain covers production functions, total, average and marginal product, the law of variable proportions, returns to scale, cost curves, revenue, supply, and elasticity of supply. Numerical questions on TP, AP, MP, and costs are common.
Core rules
- In the short run, at least one factor is fixed; in the long run, all factors can vary.
- TP is total output; AP = TP/L; MP = change in TP / change in L.
- The law of variable proportions: MP may rise, then fall, and can become negative.
- MP cuts AP at the maximum of AP.
- TC = TFC + TVC; AC = TC/Q; MC = change in TC / change in Q.
- MC cuts AC at the minimum of AC.
- The law of supply states a direct relationship between price and quantity supplied, other things equal.
- Supply shifts with input prices, technology, taxes, subsidies, and number of firms.
Worked example
Workers 0, 1, 2, 3 give TP 0, 10, 24, 36. MP is 10, 14, 12; AP is 10, 12, 12. MP rises up to the second worker, then falls, so diminishing returns begin with the third worker. AP is maximum at the third worker because MP = AP there.
Traps that cost marks
MP can be negative, but AP remains positive. Do not say fixed costs exist in the long run. Normal profit is included in cost. A change in own price causes movement along the supply curve, not a shift. Elasticity of supply is positive and is calculated as % change in quantity supplied / % change in price.