In a well-functioning competitive market, scarcity puts pressure on prices, and the resulting high prices provide a signal for resource allocation decisions that bring about adjustments in demand and, over time, new investment in generation. It does not follow, however, that any high price is a scarcity price. High prices can occur from the exercise of market power in the absence of true scarcity. Unlike scarcity prices, prices that rise due solely to the willful effort of one or more dominant players do not send rational signals for resource allocation and for that reason can be harmful to the market. Show
Marginal costs and long-term fixed costs can vary widely with the type of generation. In a uniform pricing auction where generators tend to bid in their marginal costs, generators with the lowest marginal costs are selected first and those with the highest marginal costs are selected last. In most auctions, the marginal unit sets the market-clearing price or MCP. The marginal unit is the most expensive unit selected, and the MCP is the price at which all suppliers are paid.11 Under this pricing mechanism, all generators except the marginal unit receive a price that is higher than their marginal cost. This difference is known as the inframarginal profit. Since marginal costs cover only short-term production costs, additional revenues are needed to cover the generator's long-term fixed costs and ensure ongoing investments in generation. Thus, for the business to be viable, the inframarginal profit must provide the revenues necessary to cover both the short-term and long-term costs of electricity production. Scarcity refers to a situation where the amount of generation capacity needed to serve the load and to maintain a minimum reserve margin approaches existing capacity, putting pressure on prices. High MCPs lead to high inframarginal profits, which, in turn, lead to investment in additional resources. The new plants entering the market tend to have low marginal costs compared to the existing fleet. Once the older, more expensive units that had been setting the MCP are displaced by the new efficient units, the next-most-expensive unit in the stack will set the price, with the effect that over time prices will come down. As long as the new price setters have marginal costs sufficiently higher than the new units, however, the new generator will be profitable and long-term sustainability will be achieved. The previous paragraphs describe how price signals are expected to work in a well-functioning competitive market. However, when prices are driven by the exercise of market power rather than by scarcity of supply, the price signal is corrupted. Lenders and investors may be uncertain about whether to build or finance new plants if they see an incongruity between high prices and seemingly abundant supply. Prices that are higher and more volatile than the fundamentals of supply and demand would suggest can also be a significant risk factor for new retail suppliers in the electricity market. In addition, if consumers cannot respond to high prices by reducing their demand, excess wealth flows from consumers to producers. Market power also makes it more difficult for intermediaries such as power marketers to arbitrage risk. Consider, for example, the different risk values placed on long-term contracts by a typical generator and by a typical retailer. For the generator, a 3-year contract to provide power reduces risk because it assures some amount of future revenue. The retailer, on the other hand, may not know what its customer base will be 3 years into the future, and thus may prefer short-term supply arrangements. Consequently, there is a natural economic role for a power marketer to arbitrage risk between the two market players, to the advantage of all involved. For power marketers to effectively perform this function, they must have confidence that prices change in response to legitimate market mechanisms and will continue to do so. If the prices paid by the retailer and received by the generator respond to the normal forces of supply and demand, power marketers can safely base their market decisions on informed predictions about future prices. If price fluctuations are instead the result of market power abuse, the prices do not follow a predictable course, the associated risk is difficult to arbitrage, and the market operates less efficiently. Unfortunately, there is no simple test to distinguish a legitimate $1000 scarcity price from a $1000 price resulting solely from the exercise of market power. Sometimes both scarcity and market power may be at work. The data for supply, demand, market share, and prices may suggest that market power is what drives prices, but the difficulty comes in proving that a specific action by a specific market entity constitutes an exercise of market power. To compound the problem, if a large supplier controls the market, it need not break any established market rules to exclude competition or manipulate prices. This is why structurally competitive markets – i.e., markets that exhibit ease of entry and where no supplier or group of suppliers can control prices – are generally better at disciplining market participants, protecting consumers and producing efficient pricing, output, and investment than is reliance on behavioral rules. Absent the best solution of genuine competition, the regulators and MMUs who must protect consumers against unjust prices have a difficult challenge. View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780080471723500118 Cost Function EstimatesK. Carey, in Encyclopedia of Health Economics, 2014 Useful ConstructsThe magnitudes of coefficients on independent variables generated by the cost function are not in themselves meaningful. However, a number of constructs fundamental to the theory of the firm can be determined using the cost function estimates. Key measures include marginal cost, average cost, economies of scale, and economies of scope. These represent a highly constructive set of tools that frequently are used in cost function applications to research and policy. Marginal CostsMarginal cost is the increment in cost that occurs when the output produced is increased by one unit. More formally, it is the derivative of the total cost function with respect to output. Marginal costs are important because economic decisions are made at the margin. For example, the economic decision of a physician practice to expand or reduce a particular service in response to a change in fixed payment rates will depend on the marginal cost of producing that service. Average CostsAverage cost is defined as the total cost of production divided by the number of output units. Although a conceptually simple construct, calculation of average costs is complicated in health care cost functions. Because of the multiproduct nature of production, it is difficult to describe output in a single utilization measure. The American Hospital Association Annual Survey Database contains measures of ‘adjusted’ discharges and patient days where these outputs are inflated by the ratio of total (inpatient plus outpatient) revenues to inpatient revenues. These measures are widely accepted and used in hospital cost function estimations; however, it is recognized that they are biased to the extent that hospitals cross-subsidize across inpatient and outpatient services. Although the ratio of costs rather than revenues would be a more accurate economic adjustment, separation of costs in this way is not generally available in hospital accounting systems. Economies of ScaleEconomies of scale refer to the notion that average cost falls as the firm expands. Conversely, diseconomies of scale occur when expansion incurs increasing average costs. From a technical standpoint, a measure of economies of scale is equivalent to the ratio of marginal to average costs. This is because if cost at the margin is lower than average cost, then average cost will fall with increased output. In the multiproduct context, there are two distinct economies of scale concepts. Product specific economies of scale characterize the cost effects of expanding each output separately while holding production levels of other outputs constant. The alternative adaptation is ray scale economies, which assumes a proportional increase in cost resulting from a simultaneous proportional increase in all outputs. Either construct may be appropriate; the choice depends on the context involved in the specific analysis. Economies of ScopeThe nature of multiproduct cost functions also gives rise to the related concept of economies of scope. Typically, a health care enterprise will produce more than one product because sharing of resources generally means that it is cheaper to produce products together than to produce them separately. Economies of scope refer to the savings incurred as a result of joint production. View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780123756787010014 Economic Evaluation and Its TypesD.M. Dawoud, D.L. Baines, in Economic Evaluation of Pharmacy Services, 2017 Assessing UncertaintyAlthough the ICER, NHBs and other tools have been developed to aid decision-makers, they are based on average or mean values of costs and effects. While incremental differences in average cost-effectiveness are important, point estimates of economic values fail to take account of any uncertainty surrounding the results. As most studies are sampling unknown population data, the mean value sampled could vary in future sampling. Therefore, there is “uncertainty” in the cost-effectiveness estimates that studies produce. In response, confidence intervals (CIs) could be fitted around the mean values of ICER and NHB calculations. As fitting CIs can be problematic, many health economists use the cost-effectiveness acceptability curve (CEAC) to represent uncertainty in the joint distribution of costs and benefits [10]. The CEAC is constructed by plotting the proportion of cost and effect pairs that are cost-effective for a given range of “λ” (Fig. 4.7). The construction process starts by calculating this proportion when the slope is zero (i.e., equivalent to the X-axis). Then the process is continuously repeated for increasing values of “λ”.  Figure 4.7. Cost-effectiveness acceptability curve. In health economic analysis, the CEAC indicates the probability that an intervention is cost-effective compared with its alternative, given the observed cost and effects, under different values of “λ.” The CEAC presents the probability that an intervention is cost-effective, given different degrees of uncertainty. The decision to adopt a technology should not be based solely upon the CEAC. The results of the main analysis using ICERs or NHBs should be the main driver of adoption decisions. Using the CEAC as the means of deciding whether to recommend a treatment or not is a common mistake and should be avoided. The CEAC can only represent uncertainty, the diagram cannot tell decision-makers which technology to adopt. Choices about adoption must be based upon the point estimates of analysis such as an incremental NHB calculation. View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780128036594000047 Steps in Conducting an Economic EvaluationA.A. Shafie, ... Y.V. Yong, in Economic Evaluation of Pharmacy Services, 2017 Incremental Cost-Effectiveness RatioFrequently, one alternative is BOTH more costly AND more effective (cells A or I). If so, then there is no answer to the cost-effectiveness question. All we can do is show how much extra it costs to gain an extra unit of outcome. This is called the incremental cost-effectiveness ratio (ICER), which is the additional costs that one service or treatment imposes over another, compared with the additional effects, benefits, or utilities it delivers (6.1)ICER=Cost A−Cost BEffectiveness A−Effectiveness B The calculated ICER then would be compared with external criteria. It is usually done in the form of threshold that would determine if it is cost-effective or otherwise. This is usually represented as dotted line in the cost-effectiveness plane (Fig. 6.1). If the alternative is between B versus A, B would be more cost-effective as it is below the threshold. Whereas if it is between F and A, F would not be considered as cost-effective as it is above the threshold. View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780128036594000060 Access to High-Cost Medicines in WalesAlice Varnava, ... Dyfrig A. Hughes, in Equitable Access to High-Cost Pharmaceuticals, 2018 13.3.3 Cost-EffectivenessNMG and AWMSG judgements on the cost-effectiveness of new medicines are made on the basis of the incremental cost per QALY gained (All Wales Medicines Strategy Group, 2016e). Economic evidence is normally derived from a model that combines the available evidence to estimate the expected costs and QALY gains over an appropriate time horizon. A lifetime time horizon is normally used for treatments of chronic diseases or that impact on survival. NMG and AWMSG do not use a fixed ICER threshold above which a medicine would automatically be defined as not cost-effective or below which it would, but rather a threshold range. Below a most plausible ICER of £20,000 per QALY gained, the decision to recommend the use of a clinically effective medicine is normally based on the cost-effectiveness estimate and the acceptability of a medicine as an effective use of NHS resources (All Wales Medicines Strategy Group, 2016e). However, medicines with presented ICERs less than £20,000 per QALY gained may not be recommended if NMG or AWMSG are not persuaded by the plausibility of the inputs to the economic modelling and/or the certainty around the estimated ICER. This might be affected, for example, by limitations to the generalizability of findings regarding effectiveness. Above a most plausible ICER of £20,000 per QALY gained, judgements about the acceptability of the medicine as an effective use of NHS resources specifically take account of the following factors: •the nature and quality of the evidence •uncertainty in the evidence •the robustness and appropriateness of the statistical analyses •the possible differential effectiveness or greater risk of adverse events in different subgroups of patients •the harms and benefits of the medicine from the patient’s perspective •the position of the medicine in the overall pathway (All Wales Medicines Strategy Group, 2016e). As the ICER of a medicine increases in the £20,000 to £30,000 per QALY range, NMG and AWMSG’s judgement about the acceptability of the medicine as an effective use of NHS resources normally make explicit reference to the relevant factors listed above (All Wales Medicines Strategy Group, 2016e). Above an ICER of £30,000 per QALY gained, the case for supporting the medicine based on these factors has to be increasingly strong (All Wales Medicines Strategy Group, 2016e). Both NMG and AWMSG have a preference for expressing health gains in terms of QALYs (All Wales Medicines Strategy Group, 2016e). Under circumstances where the health gain is expressed in terms of life-years gained, the range of most plausible ICERs that are acceptable will be substantially lower than those described above (All Wales Medicines Strategy Group, 2016e). View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780128119457000130 Investment DurationDouglas J. Cumming, Sofia A. Johan, in Venture Capital and Private Equity Contracting (Second Edition), 2014 20.2 Venture Capital Investment DurationTo analyze VC investment duration, it is useful to consider a comparative framework of the VC’s value-added provided to the investee company relative to the cost of the investment (this framework was first developed in Cumming and MacIntosh, 2001). In particular, we are interested in knowing whether the VC’s projected marginal value-added (PMVA) provided to the entrepreneurial company exceeds the VC’s projected marginal cost (PMC) from maintaining the investment at the VC’s measurement interval for which these benefits and costs are assessed (as based on Cumming and MacIntosh, 2001, and Giot and Schwienbacher, 2007). Note that efforts refer to the activities that VCs undertake to add value to an investee, such as the provision of strategic, marketing, financial, and human resource advice. Measurement intervals refer to points in time (whether quarterly, yearly, or otherwise) at which the VC reassesses its continued commitment to an investment. Projected marginal cost refers to the incremental direct and overhead costs associated with creating value, as well as the incremental opportunity cost associated with alternative deployments of capital, over the next measurement interval. The relationship between PMVA and PMC is depicted in Figure 20.1. PMVA is large at the start of the investment and diminishes over time as the company matures. Initial effort associated with the investment reaps large potential benefits when key strategic decisions are made, such as the selection of senior managers, the identification of product development, and marketing strategies. As well, a nascent company typically has little access to networks among advisors and other business contacts, and the VC makes these networks accessible to the entrepreneurs and the company early on in the life of the investment. Initial PMVA therefore is quite high, but diminishes as the entrepreneurial team evolves with experience and the team’s network becomes relatively more involved in the company. The PMC function also declines over the course of the investment as the VC’s intensity of effort is greater at the earlier stages. At some point, the PMC will begin to decline more slowly than the PMVA since carrying costs comprise fixed elements yet VC effort continues to decline (Cumming and MacIntosh, 2001). VC exit is defined by the PMVA, at any given measurement interval, being less than or equal to the PMC.1 Figure 20.1. Venture capital investment duration. VC investment duration changes with shifts in the PMC and PMVA functions according to the characteristics of the investee, the characteristics of the VC, and market conditions. Our theoretical hypotheses are therefore based on the ways in which we expect PMC and PMVA to shift in reference to investor and investee characteristics, as well as market conditions. In regards to investee characteristics, we expect high-tech and early stage investments to be investments for which the VC’s projected marginal value-added is high relative to that for investees in traditional industries and investees in the later stages of development. VC’s add greatest value to nascent stage entrepreneurial companies that do not have well-established governance structures and networks of advisors. All else being equal, therefore, we may expect VC investment duration to be longer for earlier stage and high-tech investments. However, the cost of maintaining such investments is also large as the VC effort is significant, particularly for companies for which conflicts of interest have arisen between the entrepreneur and the investor. PMC is therefore also high amongst early stage and high-tech investments. VCs cull their investments and write-off early stage investments for the reason of these high carry costs. In net, therefore, we may conjecture the following. Hypothesis 20.1 For non-write-offs, investment duration is longer for early stage and high-tech investments. For write-offs, we expect investment duration to be shorter for early stage and high-tech investments. Related to stage of development, company age at first VC investment will likewise impact investment duration. Older companies will more likely have established networks and governance structures, and hence there is less scope for the VC to add value. This lowers the PMC of the VC and reduces incentives to maintain investment over a longer period. Hypothesis 20.2 Investment duration is shorter for investments in entrepreneurial companies that are older at the time of first VC investment. In addition to characteristics of the investee company, characteristics of the deal may likewise affect the duration of VC investment, particularly in regards to syndication and deal size. Syndication may raise the overall potential value-added provided to the investee, but lowers the effort provided by any individual VC where there are complementarities in effort and advice among syndicated VCs (Lockett and Wright, 1999, 2001; Wright and Lockett, 2003). Hence, syndication lowers the duration of VC investment. Syndication may also result in conflicts of interest amongst syndicated investors, which raises the cost of VC effort (increases PMC) and thereby also lowers investment duration. Conversely, with larger deals in terms of the total amount of capital required by the investee, we may expect shorter duration of investment. PMC is larger as the fixed costs are larger with larger investments. PMVA is also lower as larger companies typically require less monitoring by the investor and the extent to which VCs need to add value in terms of securing key employees and facilitating a network of advisors and contacts, among other things, is less pronounced. Hypothesis 20.3 For all types of exit, all else being equal, investment duration will be shorter among syndicated investments. Hypothesis 20.4 For all types of exit, all else being equal, investment duration will be shorter for larger investments. Market conditions can also influence the duration of investment. Periods of strong market conditions, particularly in times of bull markets, shorten the duration of investment (at least for non-write-off exits) to obtain the benefit of a window-of-opportunity with higher exit valuations. Said differently, strong stock market conditions increase the opportunity cost (and hence the PMC) associated with maintaining the investment. Hence, at times when the stock market index is higher, particularly during the Internet bubble, we expect shorter investment duration. Hypothesis 20.5 For non-write-offs, investment duration is shorter during periods of strong market conditions. In periods in which there are greater amounts of new VC coming into the market from institutional investors and other sources of capital, we expect shorter investment duration. Growth in capital available for investment increase the opportunity cost of not pursuing new investment opportunities, and hence increase PMC and shorten investment duration (consistent with Gompers, 1996). As with the supply of VC, an increase in the demand for VC may also give rise to a reduction in investment duration since the PMC of not pursuing new investment opportunities is greater. Hypothesis 20.6 For all types of exit, investment duration is shorter when the supply of VC from institutional investors and other sources is greater. Hypothesis 20.7 For all types of exit, investment duration is shorter when the demand for VC is greater from potential entrepreneurs seeking capital. Finally, there may be differences in the duration of VC investment depending on the characteristics of the VC fund and the institutional environment in which the VC fund operates. These issues are considered in detail in Section 20.3.. View chapterPurchase book Read full chapter URL: https://www.sciencedirect.com/science/article/pii/B9780124095373000207 ENVIRONMENTD. Burtraw, M. Goulder, in Encyclopedia of Energy, Natural Resource, and Environmental Economics, 2013 Economic AssessmentStudies have shown that the marginal costs of a given level of emissions reductions over the course of the SO2 program have steadily declined. While this decline in compliance costs may be attributed to many factors, the flexibility mechanisms inherent in the cap-and-trade system led to both process and patentable innovation that allowed firms to reduce emissions at lower costs than they would have faced under a command-and-control alternative. A variety of economic factors played a role in reducing compliance costs. Changes in fuel markets provided cost incentives for firms to purchase low-sulfur coal, which in turn produced a natural decline in emissions that would have occurred to some degree even in the absence of regulation. The simultaneous decline in oil and natural gas prices made these fossil fuels a cheap substitute for coal, further helping to lower SO2 emissions. Even with these changes in fuel markets, a large portion of the cost savings are attributable to allowance trading itself. Flexibility mechanisms inherent in emissions trading created incentives for investing in new technology in order to lower abatement costs. Conventional prescriptive regulations and technology standards are thought to stifle innovation by fixing the standard of compliance and failing to reward innovations that allow for reductions beyond that standard. In contrast, the SO2 trading program sparked a search for new ways to reduce emissions at lower costs. As a result, both process and patentable innovations emerged, contributing to the overall decline in the cost of emissions reduction. One important innovation as a result of emissions trading was the development of alternatives to scrubbing. A decline in transportation and delivery costs helped low-sulfur coal emerge as an economically feasible alternative at many facilities. Title IV may be partially responsible for the decline in low-sulfur fuel costs – economic incentives to capture new markets driven by the SO2 program spurred hundreds of millions of dollars of investments in freight rail, lowering the cost of transporting low-sulfur coal. Yet switching from high- to low-sulfur fuel requires some capital investment at the plant. As a result, fuel blending, a compliance option previously deemed unfeasible on a large scale, emerged as another practical alternative. By blending high- and low-sulfur fuel, firms were able to avoid or delay the costs associated with capital improvements required for switching entirely to low-sulfur fuel or installing scrubbers. Studies find that the cost savings of emissions trading fall between 43% and 55% when compared to a hypothetical uniform performance standard policy that might have been implemented otherwise. However, these results may underestimate the actual cost savings of the program. If compared to a requirement for flue gas desulfurization (scrubbers) at the largest power plants, a measure that was considered in Congress before the adoption of Title IV, the program's cost savings may be considerably greater. Is used to describe the additional cost of producing one more unit?Marginal cost is defined as the incremental (additional) cost of producing one more unit of output.
What is the cost of making one more unit called?Marginal cost refers to the increase or decrease in the cost of producing one more unit or serving one more customer. It is also known as incremental cost.
What is the term for extra cost of producing one more unit of output multiple choice question variable costs marginal cost total cost fixed costs?Marginal costs of production are defined as the overall change in costs when a company or manufacturer increases the amount produced by one unit. Marginal costs can help firms determine the level at which it achieves economies of scale.
What is the term for the extra cost of producing one more unit of output quizlet?Marginal cost is the extra, or additional, cost of producing one more unit of output. It is the amount by which total cost and total variable cost change when one more or one less unit of output is produced.
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What term is used to describe the additional cost of producing one more unit?
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