Costs of Production and Marginal Returns

When operating a business a leader has to make decisions about how best to increase profitability. One of the most fundamental decisions an entrepreneur can make will relate to his or her labor force. Economists will study how a labor force affects the output of goods and services. The output of goods and services and its changes are categorized and labeled as marginal returns.

When an employer hires one additional person to increase productivity, he or she is seeking to make more money by increasing their labor force. In this scenario we have what is called increased marginal returns. Because the additional employee can increase productivity and increase profitability  he or she has increased their marginal returns.

There is a limit to how many people you can hire and still have increasing marginal returns. For example, if your shop was small and had only space for two employees, you may start to run into trouble if you attempt to stack 6 additional employees into your shop. In this case adding employees hurts production and you have what is called decreased marginal returns.

It goes even further than that. Now you have 40 employees in your 10' x 10' shop (I apologize for the hyperbole but it's necessary to make the point). At this point there are so many people stacked on top of each other that productivity decreases beyond profitability. In this example we have what is called negative marginal returns.

Economists use charts and math to determine which efforts could best keep marginal returns in the positive. When a business owner finds that they are decreasing, or in an even more disturbing situation, a negative marginal return, then he or she has to make changes. Maybe a larger shop, decrease labor costs, lay off employees, and/or forced retirement are all avenues which could be used to remedy a diminishing or negative marginal returning labor force.


There are other costs to consider when operating a business. Production costs do not simply relate only to employees. There are fixed costs that must be studied as well. The lease on your business property is a fixed cost that must be figured into your business plan. Fixed costs use money, but are fixed, so in a business since they are predictable and do not change.

On the other hand, entrepreneurs have other costs which are not fixed. Variable costs change. Think of gasoline for a trucking company or the cost of electricity for the shop. These variable costs can be a cause for a major headache for a business owner who is expecting to make specific profits based on a given business model. When adding the total costs to the variable costs you have what is called the total costs. Total costs include everything from employee pay to raw materials. The total cost is one of the most important figures to consider in a business setting.

Supply Elasticity

Similar to demand elasticity, supply elasticity describes an economic concept based on changes to price.   In the case of demand elasticity, we look at how much a price will affect quantity demanded and measure its elasticity. In cases where the divided percentages of change, in relation to price and quantity demanded, are above 1.0 we label it as elastic; whereas, when the quotient is less than 1.0 we call it inelastic. But what does it mean for a supply to be elastic or inelastic?

Suppliers will respond to market price changes. Or in other words, the law of supply states that when market prices increase, then so will a suppliers willingness to provide that good or service to market to capture that available profit. Suppliers however, do not always respond the same to price fluctuations. This is where we make the determination between elastic and inelastic supply.

When a price increase does not affect supply by much we say it is inelastic. For example, if you were the president of a large irrigation district and responsible for selling water to farmers, your supply will probably not change by much according to price fluctuations. Either way the water comes down from the mountains, and the farmers are going to need that water to grow crops. The supply in this case is inelastic.

On the other hand, a price increase can have a large impact on supply when the good or service is elastic. For example, if a teenage trend occurred which increased the demand of a type of shoe, and the price of that type of shoe increased, a supplier would try to increase his or her supply by a larger factor to capture that potential profit. There would be tons of that type of shoe available because of the change in price and because of the business owner's profit motive. Why are there so many different types of basketball shoes? Because teenagers will beg their parents to spend ridiculous amounts of money on making their feet look cool. Again in this case the shoe company has an elastic supply because of the high price for basketball shoes. The shoe company wants to make as much money as possible by increasing their supply of basketball shoes.

To calculate whether a good / service and its corresponding price is elastic, unitary elastic, or inelastic you use the following formula.

Fidel Castro, Che Guevara, and The Cuban Revolution

Because of economic inequality, Latin American leaders throughout the last 60+ years have had to struggle with the reality that many people in this region are poor. For whatever the reason, this inequality led Fidel Castro and Che Guevara to overthrow the United States backed government of Fulgencio Bautista in Cuba. Originally, Castro and Guevara only sought out to revolutionize the government for the best interests of the people, but when the revolution turned communist, this event then became a major incident in the history of the Cold War. 

Fidel Castro was a trained attorney. Being that Castro had an advantage with his education, he set upon a course of revolution for Latin American countries that he felt had been abused by colonial powers. After his first arrest, Fidel Castro met Che Guevara, a doctor from Argentina, in a Mexican jail. The two formed an alliance and planned to conspire against the leadership in Cuba. In the views of Castro and Guevara the Cuban government was not committed to advancing the cause for the people; but rather, according to Che and Fidel, the Cuban government was a puppet organization designed to keep sugar production available for American consumers. Eventually Castro, Guevara, and other revolutionaries entered the Sierra Maestra mountains in Souther Cuba to begin their revolution. Faced with difficult conditions, the revolutionaries displayed a caring attitude towards the poor, which as a consequence gained momentum for the revolutionary cause. Eventually, Castro and his supporters entered the capital city Havanna to overthrow Fulgencio Bautista. 

After the Revolution was complete, Castro declared that his new government would be socialist in nature, thus aligning his new government with the Soviet Union. Because of Cuba's close proximity to the United States, it was very troubling to the American government. After several failed assassination attempts and an invasion called the Bay of Pigs, supported by the United States Central Intelligence Agency (C.I.A.), Castro and the Soviet Union solidified command over Cuba and were able to withstand the constant pressure put on by the United States. By the early 1960's the Soviet Union placed medium range nuclear missiles in Cuba, thus threatening the stability of the Western Hemisphere. Or in simpler terms, the Soviet Union placed Nuclear missiles aimed at the United States in a country only 60 miles from Florida.

John F. Kennedy, the United States President at the time, ordered a naval quarantine of the Cuban nation. After some secret negotiations, the Soviets withdrew their nuclear missiles from Cuba, thus ending the Cuban Missile Crisis. This event symbolizes one of the most critical moments of the Cold War. To be more specific, this crisis was the nearest Humanity has ever come to a global thermonuclear war.

Today, the Cuban Revolution has failed to live up to its original promises. With economic sanctions in place since the fall of Fulgencio Bautista, the Cuban economy is a fraction of its potential. Cuba has obsolete or outdated equipment, little foreign investment, and a crumbling infrastructure. Fidel Castro, Che Guevara and the Revolutionaries had the best intentions for the peoples of Cuba, but events ongoing throughout the Cold War proved to be too much for Castro's vision of a productive socialist paradise.   

Simon Bolivar El Libertador

Simon Bolivar has been referred to as the Latin American George Washington - and rightfully so. After the Americans achieved their independence from England in 1776, the Spanish-Speaking populations achieved the same from the powerful Spanish colonial rulers. Simon Bolivar was the leader of this revolution.

Simon Bolivar entered into military service when he was 14 years old. Over the years he gained a thorough understanding of military tactics used in his time. As a result, he was uniquely qualified later as a military leader. Bolivar had a distaste for the Spanish rule over the peoples of Latin America. Finally in 1813 he was given a military command that would launch his career as the most important Latin American Revolutionary to date.

After some difficulties early on, Bolivar returned to the northern half of the South American continent to begin his operations. Starting in modern Columbia, Bolivar led his revolution into Venezuela, the most powerful territory in the region. After the fall of Carracas, the capital of Venezuela, Bolivar created a country free from Spanish rule. This new country, which was founded on democratic principles, similar to the United States, included territories ranging from Columbia to Venezuela and as far south as Peru and Ecuador. Its name was Gran Columbia.

The Encomienda System

After the arrival of the Spanish in the Americas, a political, social, and economic system was setup to spread the word of Christianity and help bring the lands and people to profitable labor. Similar to subjugation or slavery, the Spanish Crown would designate certain persons, of Spanish decent of course, to control large tracts of land found in the Americas. The Encomienda System allowed for the Conquistadors to force the Native Americans to follow Spanish sociopolitical norms. Or in other words, the Native Americans were forced to abandon their faith and practice Catholicism, forget their native tongue and learn Spanish, and work according to the Conquistadors commands. As a result, large segments of native populations were systematically transformed into loyal subjects of the Catholic faith, and to a further extent, subjects of the Spanish Empire.

Using the phrase "to civilize" became the underlying principle motive behind the establishment of the encomienda system. The Conquistadors would stake a claim to their territories and bring the Natives to labor by force. Often times this harsh rearrangement of cultural expectations caused conflict between the Spanish newcomers and the natives. As a result, the encomienda system had transformed millions of Natives to Spanish Speaking Catholics, but cultural institutions of the natives were abandoned and lost forever.

Hernan Cortes and the Conquering of the Aztecs

After the arrival of Spanish in Cuba and the Caribbean, the next objective was to explore the shores of Eastern Mexico. Some contact had been established with some indigenous peoples, but the interior tribes were largely unknown to the Spanish. As a result, the Spanish put together an expedition, led by Hernan Cortes, to enter Mexico near modern-day Veracruz. With rumors of cities of gold and natives to baptize, the Spanish expedition left from Cuba to Mexico and began in 1519.

Cortes and his men landed and quickly made contact with some indigenous peoples. Because some of Cortes' crew was dissatisfied with events early on, Cortes scuttled the ships, thus motivating his men to obey his orders. Cortes and his men had engaged in some limited combat with some outlying tribes of Native Americans, but the Aztec capital remained a large distance away from the shores. As a result, Cortes had the opportunity to forge alliances with tribes such as Tlaxcala clan, who were enemies of the ruling Aztec elite in the capital Tenochtitlan. With his uneasy alliance, Cortes, his men, and allies headed inland to visit, or in other words conquer, the capital of the Aztec empire.

After crossing the mountains, Cortes and his followers entered Cholula, a city allied with the capital Tenochtitlan. After receiving tips from his supporters, Cortes wished to send a message to those who would disobey his authority as a representative of the King of Spain. Cortes and his men killed thousands of people in the Aztec holy city of Cholula prior to entering the capital of Tenochtitlan. This event sent a message to the Aztec Emperor Montezuma II that Cortes would not tolerate disobedience or disrespect and that he and his followers were a force to be taken seriously.

Tenochtitlan was a city that was more architecturally advanced and larger in terms of its population than any other city in Western Europe. This city was a model of human achievement in the world, during the 1500's. Interpretations vary on the exact events, but we do know that Cortes entered the city and was accepted by Montezuma II. Cortes captured Montezuma II and kept him as insurance for safety from an overall Aztec attack. Later, Montezuma II would be killed and Cortes would conquer the city for Catholicism and the King of Spain Charles V.

The conquering of the Aztecs by Cortes and his Spanish forces shaped Mexico for the next 500 years. Today, Mexico is a mixture of Spanish culture with some Native American influence. People in Mexico speak Spanish, are predominantly Catholic, and share many cultural institutions with the Spanish. Because of disease and disunity the Native American influences have less of an impact on modern-day Mexican life today.

The Voyages of Columbus

During the late 1400's Castile (a powerful Spanish territory on the Iberian Peninsula) was locked in an economic struggle for dominance over trade in the far east with Portugal. At the time the Portuguese had already explored much of the eastern Atlantic Ocean, which as a result, gave the Portuguese an advantage over maritime trade. Early Portuguese explorers such as Henry the Navigator and Bartolomeu Dias had charted the western shores of the African continent south of the equator all the way to the Cape of Good Hope. The Spanish however were behind the times in navigating the Atlantic Ocean. As a consequence, the Spanish sought to circumvent the Portuguese areas on influence along Africa by heading west to Asia. Some scholars in this time period were beginning to realize that the Earth was a sphere and not flat. If the Earth was proven to be a sphere then the Spanish knew that by sailing west they could reach the riches available in east Asia without having to negotiate and pay tribute to the Portuguese who occupied the southern route around Africa.

The Spanish commissioned a navigator of Italian decent to lead the exploration of the Western Atlantic Ocean. Christopher Columbus, who erroneously is credited with discovering America, was the first modern European to sail west and reach the shores of lands in the Western Hemisphere. Columbus sailed across the Atlantic Ocean four times. Each expedition brought back a wealth of information and new understandings of the people, the lands, the seas, and the goods across the Atlantic Ocean. Although, Columbus correctly operated under the assumption that the Earth was a sphere, he did grossly underestimate the diameter of the Earth. As a result, Columbus believed that he had reached the shores of Eastern Asia on his first voyage with the Nina, Pinta, and Santa Maria. After years of exploration it was confirmed that Columbus did not reach East Asia, but that in fact there were two continents and the Earth's largest ocean i.e. the Pacific, still to be overcome to reach East Asia.

Columbus' voyages primarily focused around the Caribbean Sea and Gulf of Mexico region. On the first voyage, Columbus and his crew reached modern-day Northeastern Cuba and Haiti / Dominican Republic (referred to at this time period as Hispaniola). On the second voyage the shores of Puerto Rico, Jamaica, and Souther Cuba were detailed. The third voyage reached modern Venezuela; whereas the fourth and final voyage reached Central America.

The voyages of Christopher Columbus had a profound impact on the history of the world. First, the Western Atlantic had been discovered by Europeans. Previously myths and tall tales about sea monsters and the edge of the Earth were the common explanations used to describe the dangers outside of the comfortable sailing areas along the shores of Western Europe and Africa. Furthermore, the Europeans realized that they may not make it to East Asia, but there was a wealth of opportunity found in the Americas. Finally, the Spanish and Portuguese signed the Treaty of Tordesillas to divide the lands of the Western Hemisphere. Eventually, however, the Spanish and Portuguese were soon followed by the British, Dutch, and French to the "New World."

The Supply Curve

When economists view economics from the supply side they are thinking about how a business will seek to provide an increase in quantity of goods or services to meet the increase in prices. Or in other words, the supply side attempts to give the business owner an idea of how much service or how much product to bring to market. Supply side economics attempts to avoid being short of demand while providing an indicator of how not to over produce and waste resources. By using the supply schedule a business owner learns how much to supply to market.

The supply schedule is a categorization of amount supplied in comparison with prices paid. When the consumer is willing to pay a higher price, then the business attempts to meet the need with increased supply. After all, businesses operate to make more money. So, to summarize, when customers pay higher prices, businesses provide more supply.

When economists, entrepreneurs, and business owners graph the supply schedule you have a supply curve. The supply curve gives these people an understanding of the amount of supply that is appropriate for the level of price. Simply speaking, the supply curve gives economists a better visual understanding of the supply schedule. Later, when we combine the supply curve with the demand curve you will see another purpose of these graphs with the point of equilibrium.

To apply this example let's simply take a product such as chips. If students at the high school are willing to pay higher prices for chips, then the store will provide more chips. The result is an increase in revenue for the store.

Introduction to Supply

Economists use supply to determine the quantity of goods or services that should be made available to the market for the highest return on profit. In other words, supply is a term used in economics to demonstrate an amount of available goods or services. Entrepreneurs use supply to gauge whether they should provide more or less of a given good or service to market. For example, when people start to increase their desire (demand) for a product then the savvy entrepreneur will meet that desire (demand) by increasing supply. The increased supply sells and the entrepreneur makes more money. On the other hand however, if the desire (demand) for a good or service decreases then the entrepreneur will reduce his or her levels of supply so as to avoid the risk of losing money in the market.

The law of supply states that when market price increases then so will supply; whereas when market price decreases so will supply. (Of course this law is operating under the ceteris paribus principle that was discussed earlier in the course). When applied to an example, the law of supply becomes more evident. If consumers are willing to pay higher prices for a product then businesses seek to capture that opportunity by increasing their supply. For example, if students started to buy a certain type of soda because of its popularity, the store owner will order more of that type of soda to meet the increased demand of the customers, thus increasing profit. The store owner may also increase the price since the desire (demand) to purchase this soda is high. This principle reacts differently when the same soda becomes less popular. When the business person notices that consumers are no longer interested in that soda, he or she then drops the quantity supplied and decreases the price to avoid overstocking and a loss in profit. Demand and supply are directly reliant upon each other in an economic system.

Demand Elasticity

Since demand is affected by a multitude of factors why is it that the change in price does not always relate to the same amount of change in demand? Goods and services are not always valued, in terms of their importance or necessity, the same to the consumer. Or in other words, think about the categorization of your needs and your wants. For example, if the price of a need changes you are still willing to pay for that good or service because it is essential to your survival. On the other hand, if a price changes in relation to a simple want, then your level of willingness to pay for that good or service becomes less. The demand for goods and services do not always respond the same way to price fluctuations.

Demand elasticity measures the amount of affect a price change will have on demand. When a price change does not affect the level of demand by much it is then said to be inelastic. To apply this concept let us use an example. If you need water to drink to survive you are going to pay whatever price increase to survive. In this scenario demand is said to be inelastic. There are goods and services however that do not fit in this example and are categorized separately. If the price of certain type of soft drink were to quadruple to $4.00 per 12 oz. can then demand would be greatly affected by this price change. Here we have an example of elastic demand because consumers do not need to buy that specific type of soda and it is not essential to their everyday livelihoods. To put it plainly, inelastic demand means that consumers will still buy a product even when the price increases; whereas elastic demand means that consumers will not buy that product when the price increases. Economists measure this with a formula.

Shifts of the Demand Curve

Demand is not affected exclusively by price changes. There are a multitude of other factors which will affect demand. When studying the affects of price on a demand curve, we assume that all other external factors are not changing or that they are ceteris paribus. Ceteris paribus is a latin phrase that economists use that translates to, "all other things are held constant." Or in other words all things aside from the price have not changed. In reality, however, things change in the market all of the time. For example, clothes go out of style, new soft drinks become available, old services are replaced by other services, apples spoil, and transportation costs fluctuate. As a result, the demand curve will shift based upon external factors that change the level of demand for any good or service.

Income affects levels of demand. When consumers are being paid more in a prosperous economy then more money is available to be spent on goods and services. This example helps to support the claim that demand can change outside of the price of a good or service. Another example of a factor that will shift the demand curve is consumer expectations. When consumers have expectations about a good or service then the demand curve will shift in one direction or another.

Furthermore, changes in population will similarly affect the positioning of the demand curve. Examples of changes in population can range from active consumers in a given demographic to the amount of smokers who quit because of the availability of health education materials. The consumer population can shift the demand curve.

Finally, demand curves shift because of trends and advertising. When certain fads become less popular then the demand curve will shift. In addition, advertising will also have an affect on demand. If advertising is successful then demand becomes strengthened. Either way the demand curve shifts all of the time due to factors other than pricing.

The Demand Curve

The demand curve is a graph used by business owners and economists to determine relative levels of demand. Because pricing will affect levels of demand, the demand curve demonstrates how much demand can be predicted with a given price. Below is a demand schedule. By looking at the demand schedule it is difficult to develop a basic theme about how demand is affected by price. When we graph the data however, and create a demand curve, we can ascertain a better understanding of the overall theme on how demand is affected by price changes.