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[music] Alright. So, in this section, we divide everything

by, by unit to get a [unknown] unit cost measures, and then we look at how well

these curves look like and see if we can get any generalizations on this.

Okay, so the first one is fixed cost, and remember that our fixed cost are, don't

change. And those are going to be equal always to

a $100. So, to calculate the per unit basis, all

we do is call that the average fixed costs, the average fixed costs, they're

going to be the fixed costs you have divided by the output on a per unit basis.

Now, notice that every time you do this, the fixed costs stay the same.

What changes is output. So, if you calculate the average fixed

costs average fixed costs, you see that at the beginning, they're going to be equal

to you know, 100, divided by the output, which is 40.

They're going to be 2.50. But when you make more they go down

because the, the fixed costs are fixed, you see the, the fixed costs per unit.

The average fixed cost when you have 90 units is $1.11.

And when you have 120 units, it get smaller, 83 cents.

And when you have 135 units, it's even smaller.

So, you look at a graph, what's happening here, that is every time you add more

workers, your average fix costs go down. Again, your fixed, fixed costs are fixed

and your workers are increasing, I mean, and your output is increasing.

So, if you put the average fixed cost in a curve with the number of sandwiches in the

horizontal axis and the cost in the vertical axis, what you get is the average

fixed cost curve which should go down with more output.

There's a very interesting application of this as they relate to natural monopolies

and the reason we have monopolies controlling public utilities.

I have a little video of that at the end of lesson this week.

But for now, what we have to remember is that since the fixes are fixed, the

average, the fixed customer unit go, go down every time you have more units

because you're spreading the overhead among more people.

I mean, I mean, more sandwiches. The average variable cost is a whole

different story, because the average variable cost will go up at some point

because you're paying more workers the same money and it also depends on how

productive those workers are. So, to calculate the cost per the variable

input, again, what we're going to do, is divide the, the variable cost by the

output. And if we do that, you'll see in the table

when you have when you have one worker, you make 40 sandwiches, your average

variable cost, your cost per worker is $2, and when you have 90 sandwiches, which is

when you have 2 workers, your cost is, your average variable cost is1.78.

But when you have three cooks, your average variable cost starts to go up to

$2 per sandwich. Then, when you have four cooks, it's

actually 2.37, which is per sandwich. And then you have fifth cook, and you

start to go up at that point. So, it kind of goes down at the beginning,

but then it starts shooting up. And again, the reason for that is because

of the diminishing marginal product. At some point, you're paying the workers

the same money, but they're bringing you less and less output.

And then finally, you can take those two measures, the average variable cost, and

the average fixed cost, add them together to get the, the total cost per unit, the

average total cost. You can also calculate that by simply

dividing the total cost by the amount of units.

It's the same, you got the same number. And the story should go, I'll, let's look

at the numbers first. So, you see that the first the first cook

increased to 40 units so the total, the average total cost is 4.50 per unit.

Then, with 90 sandwiches with two workers is $2.89 per work per sandwich and then,

with 3 cooks, which is 120 sandwiches, you have $2 and $83 of cost per sandwich.

And then, with the fourth cook, it starts going up.

You see with the 130, with the 135 sandwiches, the cost per sandwich is 3.11,

with 140 sandwiches, it's 3.57, and with 142 sandwiches, which is all the cooks, 6

cooks, is $4.08. Again, it's not difficult to make that

story, right? At the beginning, you know, average,

average total cost is made out of average fixed cost and average variable cost.

At the beginning, both average fixed cost and average variable cost are going down,

are very fickle because you have more unit.

And average variable cost because your second worker and first worker were very

productive. Now at some point, the average fixed cost

stabilize because, you know, they adjust, an, an, a certain amount of workers of

units and then, at that point, two things happen at the same time.

That, and also the fact that your workers become less productive because they hid

this diminishing marginal product problem, they're running into each other in the

kitchen, and you're paying them the same. So, at that point, your cost per sandwich

is going to start going up rapidly very quickly, alright?

So, the average total cost curve is going to go down, and is going to reach a

minimum and then it's going to go up, and that should be the way it should look for

um,for any kind of operation that follows this problem of diminishing marginal

product. And then, finally, let's look at well,

before we do that, let's, let's focus a little bit now, on that lower point, the

lowest point of the average total cost curve.

What does that mean? Well, in the table, that's what, what

$2.83, alright? So, when you have three cooks, you'll make

120 sandwiches and at that point, your cost, at least from the numbers from the

table, your cost per sandwich is $2.83. That is the lowest cost per sandwich that

you are able to get in this operation. The way, the way you're doing your stuff,

the best the most efficient point that you are is when you're producing at a cost per

unit per sandwich of $2.83. That's not when your costs are the lowest,

that is when your cost per unit is the lowest.

Which means that if your cost per unit is the lowest, it means that you're doing

this in the best possible way. You're using your resources in the best

possible way. And per unit, they are the cheapest that

they're going to be. So, that is the lowest point of that

average total cost curve. Well, as it turns out, if we put the

marginal cost curve, which we actually have calculated in the previous section in

this diagram, you will see that this marginal cost curve is going to cross the

average total cost curve at precisely that point.

That's not a coincidence, it's a mathematical property.

Now I told you what the importance is of that lower point of average total cost

curve. Now, let's see if I can explain the

intuition as to why the marginal cost curve crosses that point at the lowest

point of the average total cost curve. Well, think about your average for, for a

class. So, you're taking a class and your average

in the class is 80, 80% and then you take another exam, the marginal is the other

exam, and you scored 85 on that exam. So, your average in the class is 80 and

your change, your next exam, is 85. What's going to happen to your average in

the class? It will go up.

Because the marginal, the additional, the marginal change is pulling the average in

that direction of the marginal. When the marginal, when the additional

exam, the marginal, is higher than your average, your average will go up, it's

going up. Now, let's say that you have 80%, on your

next exam, it's 70. Now, what, what's going to happen to your

average in the class, well it'll go down, right?

Because the next exam is 70 and your average of 80 is going to be pulled down

by that change of 70% of, in the exam. The same thing with costs.

When the point in which marginal cost is lower than average total cost, your, the

marginal is pulling your average down. You're getting more productive in your

operation. You're getting more efficient in your

operation. Now, when the marginal cost is higher than

average total cost, they're marginal, every time you produce more units, your

average cost per unit will go up, because at that point, you're not very efficient.

And you know that you're doing the best, you're at the most efficient point, when

both the marginal cost and the average total cost are the same.

That is in any, it's a mathematical property.

So, that happens for Black Dog and it happens for any business.

So, that is very useful information if you're a manager or an owner, right?

Because if you want to know the most efficient point of production, then your

most efficient point of production is at the point in which your average cost per

unit is the same as your marginal cost per unit.

Now, what is the significance as to how many workers might you hire for making the

sandwiches, and how big is the restaurant should be?

That is actually the answers we're going to talk about in the next lesson.

Now that we know about cost, we have to bring revenue into the equation price to

combine them together in the idea of profits.

And that's what we do next week. [music] Produced by OCE Atlas Digital

Media at the University of Illinois, Urbana-Champaign.