Theory of Cost

The cost of production refers to the total expenses incurred in the process of manufacturing
goods or providing services. It encompasses various elements, including raw materials, labor,
equipment, utilities, overhead costs, and any other expenditures involved in the production
process.
There are different types of costs associated with production
1. Fixed Costs: These costs remain constant regardless of the level of production or sales.
They are incurred even if no units are produced or sold. Examples of fixed costs include
rent, salaries of permanent staff, insurance premiums, and depreciation of equipment.
2. Variable Costs: Variable costs vary in direct proportion to the level of production or
sales. They increase as the production volume increases and decrease as it decreases.
Examples of variable costs include raw materials, direct labour, packaging, and
commissions paid to salespeople.
3. Total Costs: Total costs encompass both fixed and variable costs. It represents the sum
of all expenses incurred in the production process, irrespective of their classification as
fixed or variable costs.
4. Marginal Costs: Marginal costs refer to the additional cost incurred in producing one
additional unit of a product or providing one additional service. It helps businesses
determine the profitability of producing and selling additional units. Marginal costs are
calculated by dividing the change in total costs by the change in quantity produced.
5. Average Costs: Average costs are calculated by dividing the total costs by the number
of units produced. They provide insights into the average cost per unit of production.
Average costs can be further divided into.
a. Average Fixed Costs: This is calculated by dividing fixed costs by the
number of units produced. It represents the fixed cost per unit of
production
b. Average Variable Costs: This is calculated by dividing variable costs by
the number of units produced. It represents the variable cost per unit of
production.
c. Average Total Costs: This is calculated by dividing total costs by the
number of units produced. It represents the overall cost per unit of
production
6. Explicit Cost: Explicit costs are the actual out-of-pocket expenses incurred by a firm.
These costs involve cash payments for inputs, such as wages, raw materials, and rent.
7. Implicit Cost: Implicit costs, also known as opportunity costs, are the non-monetary
costs associated with using resources in a particular way. They represent the value of the
best alternative forgone. For example, if the owner of a business foregoes a salary to run
the business, the forgone salary is an implicit cost.
8. Sunk Cost: Sunk costs are costs that have already been incurred and cannot be
recovered. They are irrelevant for decision-making because they cannot be changed or
recovered. Sunk costs should not be considered in determining future production or
investment decisions.
9. Social cost refers to the total cost incurred by society as a result of an economic activity
or decision. It extends beyond the private costs borne by individuals or firms involved in
 the activity and takes into account external costs or negative effects imposed on third
parties or society as a whole.
10. Opportunity cost refers to the value of the next best alternative that is forgone when
making a choice between two or more mutually exclusive options. It is the cost of
choosing one option over another, and it represents the benefits or opportunities lost as a
result of that choice.
11. Historical and Replacement Cost: Historical cost is the expense incurred on acquiring
an asset in the past. Whereas, replacement cost is the expense of replacing the old asset
with a new one.
12. Increment and Sunk Cost: Increment cost is the additional amount spent for the
enhancement of the existing assets or opting for a new product line, changing the
obsolete assets, etc. Contradictory to this, a sunk cost is the past expense made on the
assets which become outdated over the period and cannot be revived or altered.
13. Accounting cost is the total monetary expenses incurred by a firm in producing a
commodity and this is what an entrepreneur takes into consideration in making
payments for various items including factors of production (wages and salaries of
labour), purchase of raw materials, expenditures on machine, including on capital goods,
rents on buildings, interest on capital borrowed, expenditure on power, light, fuel,
advertisement, etc.
14. Economics cost
15. Business Cost

Cost Function

Cost functions are derived functions. They are derived from the production function which
describes the available efficient methods of production at any given period of time.
Symbolically, we may write the long-run cost function as:
C = f (Q,T,Pf,)
and short-run cost function as;
C = f (Q,T,Pf,K) Where C is total cost, Q is output, T is technology, Pf is prices of factor inputs,
and K is fixed factors of production.

There are two theories of cost