Ten Cheaper Spades: Production Theory and Cost Curves in the Short Run - A Reply

Abstract

In "Ten Cheaper Spades", Richard Miller argues that the analysis of production and cost presented in the principles and intermediate microeconomics courses does not accurately describe manufacturing reality and is not supported by empirical estimation of cost curves. He proposes an alternative analysis based on the premise that firms can increase the use of labor and capital in fixed proportions until the capital stock is fully employed. The accompanying marginal cost curve would be horizontal until capacity and then become vertical. In order to obtain a determinant output firms would have to have pricing power. Miller recognizes that replacing the standard production and cost model with his alternative would mean that the perfectly competitive model would no longer be the focal point of the principles and intermediate courses. In this reply, I take issue with Miller's analysis on three grounds. First, his production model is not as general as he would suggest. No one cost model can be expected to accurately fit all situations. The standard model is reasonably descriptive of production and cost in the service sector, which is the largest sector of a modern economy. Second, empirically estimated cost curves do not provide a decisive test of the underlying theory. Third, and most important, the model of perfect competition has important welfare properties that make it a useful yardstick for evaluating the performance of actual economies.