Question

1. Costs with a wage of $24

Volume	Total Cost	AC	MC
0	80000
20000	280000
10000	180000

2. Costs with a wage of $20 and a time of 10 minutes

Volume	Total Cost	AC	MC
0	80000
20000	240000
10000	160000

3. Costs with a wage of $20 and a rent of $100,000

Volume	Total Cost	AC	MC
0	80000
20000	260000
10000	170000

4. Kim and Pat underwrite insurance. Each underwrites 50 accounts per month. Each account takes four hours to underwrite. The value of their time is $40 per hour. Monthly costs for each are $1,500 for an office, $2,000 for a receptionist, and $2,400 for a secretary. Calculate the average and incremental cost per case for Kim and Pat.

	50	51
Average Cost
Incremental Cost

5. If Kim and Pat merge their operations, they would need only one receptionist, and their rent for the joint office would be $2,800 per month. All other values stay the same. Calculate the average and incremental cost per case for the merged office. Are there economies of scale at 100 accounts per month? Should Kim and Pat merge their offices
?

	Separate	Merged
Average Cost
Incremental Cost

Answer 1

AC = Total Cost / Volume

MC = Change in Total Cost / Change in Volume

1)

Volume	Total Cost	AC	MC
0	80000	-	-
10000	180000	18	10000
20000	280000	14	10000

2)

Volume	Total Cost	AC	MC
0	80000	-	-
10000	160000	16	8000
20000	240000	12	8000

3)

Volume	Total Cost	AC	MC
0	80000	-	-
10000	170000	17	9000
20000	260000	13	9000

4) Each underwrites 50 account per month where 1 account take 4 hours each

Value of their time = $40 per hour

Variable cost = Total account * Time per account * Value of their time = 50 * 4 * 40 = 8,000

Fixed cost = Recepetionist + Office cost + Secretary = 2,000 + 1,500 + 2,400 = 5,900

Total cost of 50 account = Variable cost + Fixed cost = 8,000 + 5,900 = 13,900

Average cost of 50 accounts = (13,900 / 50) = 278

Incremental cost per account is: Time per account * Value of their time = 4 * 40 = 160

5) If they merge, fixed cost would be Recepetionist + Office cost + Secretary = 2,000 + 2,800 + 2,400 = 7,200

Variable cost will remain same. Total variable cost of 100 accounts = 100 * 4 * 40 = 16,000

Thus, total cost of 100 account = 16,000 + 7,200 = 23,200

Average cost of 100 account = (23,200 / 100) = 232

Incremental cost would be same = 40 * 4 = 160

	Separate	Merged
Average Cost	278	232
Incremental Cost	160	160

There occur economies of scale at 100 account when they merge.