Costs, Revenues & Profits

Cost, Revenues and Profits: Crash course


  • A social cost is a cost to society of an action or output OR the cost or price that society has to pay for the existence of a particular product OR the price that society has to pay as a result of the production or consumption of a commodity. 
  • A social benefit is the benefit or advantage that accrues to society as a whole as a result of an individual firm consuming or producing a commodity that is not measured by the price.

This video shows the difference between accounting costs and economic costs.

Paj Holden explains marginal, average and total cost curves that firms face. Why do the interact as they do?

Short Run vs. Long Run Costs

Short run: A period of time during which at least one factor of production is fixed in supply.

Long run: A period of time during which all the factors of production are variable in quantity.

  • Explicit costs are costs incurred by a firm when it pays an amount of money for something, e.g. when a firm pays its electricity bill of €500.
  • Implicit costs, on the other hand, don’t involve paying out money but should still be considered in our analysis. It is implicit as it is money that is not received, i.e. an opportunity cost or the cost of foregone alternatives. 

Production by Mjmfoodie

The law of diminishing marginal returns (LDMR)

As more and more of a variable factor is added to a fixed factor, at some stage the increase in output caused by the last unit of the variable factor will begin to decline.

Shape of a short run average cost (SAC) curve

The SAC curve is generally U-shaped and slopes downwards from A to B due to the following:

  • Specialisation/division of labour: This can occur if production increases and the firm decides to employ specialists or if existing workers concentrate on a smaller number of tasks. This can lead to greater efficiency and thereby lowers unit costs.
  • Greater spread of fixed costs: As a company expands, its fixed costs will not increase directly as more is produced. Fixed costs are static over a range of output and behave in a step-like fashion. Therefore, fixed costs are spread over an increasing number of units and as production increases, the fixed cost per unit falls.

What determines the LRAC

The LRAC curve is generally shown as saucer-shaped. As the firm grows in size, it experiences cost savings called economies of scale. These savings cause the LRAC to slope downwards and average costs decrease. The upward part of the LRAC is due to diseconomies of scale and average costs begin to increase.

Economies of scale: arise when average cost / unit cost of production falls as output rises/as firm expands its scale of operations.

  • Internal Economies of Scale: These are forces within a firm which cause the average / unit costs of that firm to decline as the firm grows in size.
  • External Economies of scale:These are forces outside a firm which cause the average / unit costs of that firm to decline as the industry grows in size.


How the marginal, average and total revenue curves of firms are drawn in perfect and imperfect competition.


How does a firm know how much output to produce to get the maximum profit?

 Maximizing Profit: MR=MC Practice

Objectives of firms:

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