Costs Essay Example | Topics and Well Written Essays - 1500 words

Costs - Essay Example As mentioned in the definition, the organization can increase its factors of production to achieve higher production levels and the state of technology is the only constraint. So it means that all inputs are variable. Hence, in the long run when the inputs are increased, the output may: To inputs the average total cost of producing that output will fall. The firm's costs will rise less than the output of goods. This is called as the economies of scale as represented in the following diagram: The long run curve represented above includes short run periods as the firm expands. The LRATC curve is a track of all the SRATC curves as the firm grows. Initially, the short run average costs are at the lowest in SRAC1. As the firm expands, its average costs fall to the bottom of the U shaped curve and then begins to climb because of the diminishing returns. The firm then moves its production to the next level and the cost move to the next short run situation shown as SRAC2. In the long run the average cost is represented by the black line tangenting all the short run average cost curves. The whole LRATC is composed of infinite number of single points from SRAC curves. The LRATC curve is the boundary between unit cost levels that are attainable by the firm and unit cost levels that are unattainable. ... When the long run until costs are falling as the outputs increases, the firm is experiencing increasing returns to scale and thus less long run average costs. If the firm is experiencing average returns to scale then the average long run costs are same and if the firm is experiencing diminishing returns to scale then the long run average costs are increasing. Long run marginal cost Marginal cost is defined as the cost associated with producing one extra unit assuming that the extra unit produced will cause increase in production capacity. The long run marginal cost curve resembles the short run marginal cost curve as it is also U shaped. The U shape of the LRMC can be attributed to increasing and decreasing marginal returns. The calculation of cost and revenue of one extra unit is very crucial in the long run as it is essential to make the capacity increase decision. If the last unit produced gives more revenue than the cost to produce that unit, the firm should expand it s capacity. Marginal cost will increase as the firm expands due to the Law of diminishing returns. The firm should keep expanding as long as the MR > MC. "The term LRMC is used to signify the cost effect of a change which involves some alteration in the amount or timing of future investment. SRMC, on the other hand takes capacity as given, so relates only to changes in operating costs." (Turve y,11). The SRMC rises due to the capacity constraints and then fall after there is a significant increase ion the capacity expansion. Hence, in the long run the marginal cost curve is U shaped. The following diagram shows the increase and decreases of the marginal costs before and after expansion. Kinked demand curve In a non collusive