Behaviour of Short Run Curves
Behaviour of Short Run Curves
⚫ At the point where AVC exactly nullifies the fall of AFC it causes
balancing effect.
⚫ For ATC to remain constant first when the rising effect of AVC
becomes more pronounced it becomes inevitable for ATC to rise.
⚫ The falling path of ATC is largely due to the falling AFC curve,
while its rising path is largely influenced by the rising AVC Curve.
⚫ The distance between ATC and AVC curve becomes narrow as the
curves move upward.
⚫ The slopes of the ATC curve, initially negative and there after
positive reflect the combined influence of fixed and variable cost
curve.
⚫ The economic reason underlying the U-shape of the average cost
curve is that there is greater important of fixed costs in any firm
till the normal capacity is exhausted and the normal point or the
point of least combination of various factors (fixed and variable)
is reached.
⚫ But once the normal output of the plant is reached, more and
more variables factors are to be employed due to the diminishing
returns so that the variable cost rises sharply to increase the
output further which outweighs the effect of falling average fixed
cost. So that the ATC starts moving with AVC .
RELATIONSHIP BETWEEN AC & MC
RELATIONSHIP BETWEEN MARGINAL
COST & AVERAGE COST
⚫Initially both AC & MC slopes downwards .
⚫ The long run production function has no fixed factors and the firm has
no fixed costs in the long run.
⚫ The term plant refers to input size of the plant which is fixed and it
cannot be increased or decreased.
⚫ The long run cost of production is the least possible cost of combination
of producing any given level of output when all inputs are variable,
including of course the size of the plant.
Long Run Average Cost
⚫ The long run average cost is the long run total cost divided by the level of
output .
⚫ The three short run average cost curve are also called plant curves.
⚫ The three short run average cost curves show three different scales of
production or three different sizes of plants.
⚫ The producer would like to produce the optimum output, because his
average cost is the least cost at the point.
⚫ In the long run, the firm can choose among the three possible size of plant.
⚫ The firm will examine which size of the plant or short run average curve in
profitable to produce the given output at the minimum possible cost.
⚫ SAC1, SAC2, SAC3 are short run average cost curves depicting three different
plant sizes of scale of production.
⚫ The firm is producing under short term average cost curve SAC1.
⚫ the firm is producing OB output at lower cost.
⚫ If it produces OA output, the average cost (AL) is lower than OB output.
⚫ If it produces the same output in SAC2 curve, it costs AN. Since AL is smaller
than AN, the firm will produce with SAC1, curve.
⚫ Similarly, all other output levels up to OB can be produced with the small plant
size of SAC1 rather than SAC2.
⚫
⚫ The firm will be producing OB output in SAC1 size of plant. It will be seen
that if more output could be produced in SAC2, the average cost will be lower
than SAC1.
⚫ If the output OM is produced, the average cost will be OL1, which is taken to
be the lowest in the SAC2 plant size.
⚫ If the firm wants to increase output up to OC, it incurs CR cost which is higher
than the cost of SAC2 size.
⚫ If it produces OC output at SAC3 plant size , AC is CL2 , is lower than CR
on the SAC2 size . Therefore, for output larger than OC, the firm will employ a
plant size corresponding to the short run average cost curve SAC2.
⚫ if the tangents of all the short run cost curves are added, a long run average
cost is derived.
FEATURES OF LAC CURVE
⚫ LAC curve is called as an envelope curve because it envelopes all
the short run average cost curve
⚫ LAC curve is also called as tangent because it is drawn by joining
the loci of various plant curves relating to different operational
short run periods.
⚫ After a certain level and output LMC tends to rise, through LAC
continues to fall.