Cost Functions

Types of Costs

Link to Transcript Transcript to Different Types of Costs

Fixed Costs

• A fixed cost is a cost that does not vary with the amount of production a business is doing. Put statistically, they are costs that are not correlated with the volume index.
• Examples of fixed costs: rent, insurance, property taxes, interest expense, paid salaries, etc…

Variable Costs

• A variable cost does change with the amount of production a business is doing. Put statistically, they are positivly correlated with the volume index
• Examples of variable costs: worker's wages, supplies/materials, etc…

Total Costs

• Total costs are the fixed costs + the variable costs

Midterm 2 Total Cost

What is a volume index

• A volume index is a gathering of all the types of output that a company makes so they can compare them in a single measure.
• An ideal volume index will have a positive correlation and will have minimum deviation from its best fit line.

Link to Transcript Transcript to Volume Index

Derived Costs

Average Costs

• Average costs (AC) is total costs (TC) divided by quantity (q) of good produced
• \$AC = TC/q\$

Real life costs don't look like our assumptions. The assumptions are there to keep the math in line with the math prerequisites of the course.

Transcript of Real Life Average Costs

Incremental Cost

• Incremental costs, or marginal costs, is the cost associated with producing one more unit of output.
• \$AVC = VC/q\$
• This is also referred to average variable cost (AVC) because it is the variable cost (VC) per quantity of output.

Simplifying assumptions

We make some simplifying assumptions to keep the math at the high school algebra level.

page revision: 59, last edited: 17 Aug 2016 16:20