Concepts of Costs: Private, Social, Explicit, Implicit and Opportunity

The process of Production involves a number of factors of production. The factors may be fixed or variable. The producers make payments to these factors for their services. These expenses are known as the COSTS OF PRODUCTION.

The cost function shows the relationship between the firm’s cost and its output.

C = f (Q, P, T….)

where,

C is the cost,

Q is the level of output,

P is the price of inputs, and

T is technology.

Since the cost function combines the information given by the production function with the input prices, the cost functions are called as ‘derived functions’. Depending upon the requirements of the firm and upon the time element, the cost function can also be ‘short run or long run’.

Concepts of Costs

The theory of costs revolves around different concepts of cost functions. Since cost functions are derived functions, therefore any change in production function has an impact on the cost.

1. Private Costs

The process of production involves two types of costs- private and social. Private costs refer to costs incurred on the purchase of inputs or the factors of production, and also the implicit costs borne by the producers include the following:

1. The costs incurred on the factors of production
2. Implicit/imputed costs on the resources provided by the producer/entrepreneur
3. Normal profits

2. Social Costs

Besides private costs, there are some costs which the producer does not include in his cost of production.

Welfare economics takes account of such costs in addition to the explicit and implicit costs borne by the producer, though such costs are external to the firm. For example, a chemical factory is a great cause of pollution and ill health of the population. The producer is imposing a social cost on society. From society’s point of view, this cost is very important as society needs to be compensated.

3. Explicit Costs

Explicit cost is the most widely used concept of costs. It refers to the costs incurred by a firm on the purchase of factors of production. It refers to the expenditure on raw materials, wages, rent, interest payments and so on. It is also known as ‘MONEY COSTS’ or ‘ACCOUNTING COSTS’.

4. Implicit Costs

The costs that are related to the factor inputs owned by the firm. These costs are also known as ‘ECONOMIC COSTS’. The Economist has a wider view of costs in comparison to an accountant.

Since such costs do not involve any monetary payments, therefore the Accountant does not take them into account. But if such resources are employed elsewhere, they could have earned returns for themselves.

So, such resources have an imputed or implicit cost. An entrepreneur who runs his factory on his own land is forgoing the returns he could have gotten if he had rented it out at market rate. The entrepreneur can work as a manager or a consultant and earn wages.

5. Opportunity Costs

As we all know that resources are not only scarce but have alternate uses; thus, the concept of ‘OPPORTUNITY COSTS’ arises. Opportunity costs form the basis of the concept of cost. Also known as the Alternative costs. It is the cost linked with the prospects that have been foregone by not putting the firm’s resources to the best possible uses.

For example, a given amount of resources can produce 1000 kg of rice or 500 kg of sugar, and the producer decides to produce one of the options and foregoes the other option. The decision of the producer depends upon many factors like the prices of factors of production, the price of the goods and so on.

Read More- Microeconomics

1. Microeconomics: Definition, Meaning and Scope
2. Methods of Analysis in Economics
3. Problem of Choice & Production Possibility Curve
4. Concept of Market & Market Mechanism in Economics
5. Concept of Demand and Supply in Economics
6. Concept of Equilibrium & Dis-equilibrium in Economics
7. Cardinal Utility Theory: Concept, Assumptions, Equilibrium & Drawbacks
8. Ordinal Utility Theory: Meaning & Assumptions
9. Indifference Curve: Concept, Properties & Shapes
10. Budget Line: Concept & Explanation
11. Consumer Equilibrium: Ordinal Approach, Income & Price Consumption Curve
12. Applications of Indifference Curve
13. Measuring Effects of Income & Excise Taxes and Income & Excise Subsidies
14. Normal Goods: Income & Substitution Effects
15. Inferior Goods: Income & Substitution Effects
16. Giffen Paradox or Giffen Goods: Income & Substitution Effects
17. Concept of Elasticity: Demand & Supply
18. Demand Elasticity: Price Elasticity, Income Elasticity & Cross Elasticity
19. Determinants of Price Elasticity of Demand
20. Measuring Price Elasticity of Demand
21. Price Elasticity of Supply and Its Determinants
22. Revealed Preference Theory of Samuelson: Concept, Assumptions & Explanation
23. Hicks’s Revision of Demand Theory
24. Choice Involving Risk and Uncertainty
25. Inter Temporal Choice: Budget Constraint & Consumer Preferences
26. Theories in Demand Analysis
27. Elementary Theory of Price Determination: Demand, Supply & Equilibrium Price
28. Cobweb Model: Concept, Theorem and Lagged Adjustments in Interrelated Markets
29. Production Function: Concept, Assumptions & Law of Diminishing Return
30. Isoquant: Assumptions and Properties
31. Isoquant Map and Economic Region of Production
32. Elasticity of Technical Substitution
33. Law of Returns to Scale
34. Production Function and Returns to Scale
35. Euler’s Theorem and Product Exhaustion Theorem
36. Technical Progress (Production Function)
37. Multi-Product Firm and Production Possibility Curve
38. Concept of Production Function
39. Cobb Douglas Production Function
40. CES Production Function
41. VES Production Function
42. Translog Production Function
43. Concepts of Costs: Private, Social, Explicit, Implicit and Opportunity
44. Traditional Theory of Costs: Short Run
45. Traditional Theory of Costs: Long Run
46. Modern Theory Of Cost: Short-run and Long-run
47. Modern Theory Of Cost: Short Run
48. Modern Theory Of Cost: Long Run
49. Empirical Evidences on the Shape of Cost Curves
50. Derivation of Short-Run Average and Marginal Cost Curves From Total Cost Curves
51. Cost Curves In The Long-Run: LRAC and LRMC
52. Economies of Scope
53. The Learning Curve
54. Perfect Competition: Meaning and Assumptions
55. Perfect Competition: Pricing and Output Decisions
56. Perfect Competition: Demand Curve
57. Perfect Competition Equilibrium: Short Run and Long Run
58. Monopoly: Meaning, Characteristics and Equilibrium (Short-run & Long-run)
59. Multi-Plant Monopoly
60. Deadweight Loss in Monopoly
61. Welfare Aspects of Monopoly
62. Price Discrimination under Monopoly: Types, Degree and Equilibrium
63. Monopolistic Competition: Concept, Characteristics and Criticism
64. Excess Capacity: Concept and Explanation
65. Difference Between Perfect Competition and Monopolistic Competition
66. Oligopoly Market: Concept, Types and Characteristics
67. Difference Between Oligopoly Market and Monopolistic Market
68. Oligopoly: Collusive Models- Cartel & Price Leadership
69. Oligopoly: Non-Collusive Models- Cournot, Stackelberg, Bertrand, Sweezy or Kinked Demand Curve
70. Monopsony Market Structure
71. Bilateral Monopoly Market Structure
72. Workable Competition in Market: Meaning and Explanation
73. Baumol’s Sales Revenue Maximization Model
74. Williamson’s Model of Managerial Discretion
75. Robin Marris Model of Managerial Enterprise
76. Hall and Hitch Full Cost Pricing Theory
77. Andrew’s Full Cost Pricing Theory
78. Bain’s Model of Limit Pricing
79. Sylos Labini’s Model of Limit Pricing
80. Behavioural Theory of Cyert and March
81. Game Theory: Concept, Application, and Example
82. Prisoner’s Dilemma: Concept and Example