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294 PART • Producers, Consumers, and Competitive Markets an output of q1 Now suppose the price of one input increases Because it now costs more to produce each unit of output, this increase causes the marginal cost curve to shift upward from MC1 to MC2 The new profit-maximizing output is q2, at which P ϭ MC2 Thus, the higher input price causes the firm to reduce its output If the firm had continued to produce q1, it would have incurred a loss on the last unit of production In fact, all production beyond q2 would reduce profit E XA MPLE 8.4 THE SHORT-RUN PRODUCTION OF PETROLEUM PRODUCTS Suppose you are managing an oil refinery that converts crude oil into a particular mix of products, including gasoline, jet fuel, and residual fuel oil for home heating Although plenty of crude oil is available, the amount that you refine depends on the capac- Cost (dollars per barrel) ity of the refinery and the cost of production How much should you produce each day?4 Information about the refinery’s marginal cost of production is essential for this decision Figure 8.8 shows the short-run marginal cost curve (SMC) 77 SMC 76 75 74 73 8000 9000 10,000 11,000 Output (barrels per day) F IGURE 8.8 THE SHORT-RUN PRODUCTION OF PETROLEUM PRODUCTS As the refinery shifts from one processing unit to another, the marginal cost of producing petroleum products from crude oil increases sharply at several levels of output As a result, the output level can be insensitive to some changes in price but very sensitive to others This example is based on James M Griffin, “The Process Analysis Alternative to Statistical Cost Functions: An Application to Petroleum Refining,” American Economic Review 62 (1972): 46–56 The numbers have been updated and applied to a particular refinery
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