Marketing economies: i Large firms can afford to advertise on television and in newspapers and magazines. In the long run, larger output can be produced from large sized plants. In a perfectly competitive market the price that firms are faced with in the long run would be the price at which the marginal cost curve cuts the average cost curve, since any price above or below that would result in entry to or exit from the industry, driving the market-determined price to the level that gives zero. Explanation according to the diagram:- If the anticipated rate of output is 200 units per unit of time, the firm will choose the smallest plant. Therefore, with the given prices of inputs, when returns to scale are constant, the cost per unit of output remains the same.
Only after a very large increase in output, diseconomies of scale exert themselves and bring about a rise in the long-run average cost. During the American Revolution, the price of corn rose 10,000 percent, the price of wheat 14,000 percent, the price of flour 15,000 percent, and the price of beef 33,000 percent. These statements assume that the firm is using the optimal level of capital for the quantity produced. The large firms can afford to buy in bulk and they usually purchase raw materials in bulk and succeed in paying lower prices and enjoying special privileges e. In the , when at least one factor of production is fixed, this occurs at the output level where it has enjoyed all possible average cost gains from increasing production.
This will hold good up to the point of maximum capacity of the equipment and scale used in the factory. Shape: Shape of the Long Run Average Cost Curve. We can also write total output, Q, as the average product, 10, multiplied by the number of workers, four. Average fixed cost continuously falls as production increases in the short run, because K is fixed in the short run. In the short run such adjustment is not possible and, therefore, costs vary considerably with variation of output. External economies of scale: These are the economies which apply to the industry as a whole and each particular firm can enjoy these economies as the industry expands. The behavioral assumption is that the firm will choose that combination of inputs that will produce the desired quantity at the lowest possible cost.
It should be noted that this view regards the entrepreneurial or managerial functions to be divisible and variable and explains the diseconomies of scale or the rising part of the long-run average cost curve as arising from the mounting difficulties of management i. Marketing economies: The marketing personnel of the firm and other arrangement of marketing are likely to become more efficient with the increase in the scale of marketing and it may result in the lower cost of marketing per unit of output. If the firm is a perfect competitor in all input markets, and thus the per-unit prices of all its inputs are unaffected by how much of the inputs the firm purchases, then it can be shown that at a particular level of output, the firm has economies of scale i. Spreading total fixed cost over a larger output afc curve slopes downward as increases. In the short run full adjustment to a change in demand is hindered by the fact that some of the factors are fixed in supply for the time being. Thus, according to him, even if all factors were perfectly divisible, the economies of scale will still be reaped due to the use of more specialised machinery and a greater degree of division of labour at higher levels of output.
The factors of production can be used in varying proportion to deal with an increased output. Or For A Little Background. The relative lengths and inclinations of the upward and the downward portions of the curve differ from firm to firm and industry to industry. Eg: a firm reconfigured its passenger planes each night by removing seats in order to haul packages and freight. Economies and diseconomies arise not only from the proportions of the factors but also from the scale of operations. Minimum Efficient ScaleThe long-run average cost curve is extremely important to the long-run production of a firm.
To begin with, the Average Costs are high at low levels of output because both the Average Fixed Costs and Average Variable Costs are more. To bring coordination, more assistants and supervisors and more bureaucracy is required which also lengthens the chain of communication between the management and production unit. This means three things: i The long run cost curve initially slopes downwards, i. The growth of component and other suppliers within the area. From these relations, it is possible to determine the shapes of the average variable cost and marginal cost curves. This results from the use of indivisible factors and the reaping of internal economies of labour, technical, managerial, marketing etc. Thus, we can define average variable cost as: A similar relation can be shown between marginal cost and marginal product.
As a result of becoming bigger the firm which experiences internal economies of scale enjoys a situation where average costs per unit of production are falling as output is rising. In this case, with perfect competition in the output market the long-run market equilibrium will involve all firms operating at the minimum point of their long-run average cost curves i. As the firm grows the problems of coordination and control tend to grow rapidly after a certain point and the costs of employing more management which is not directly productive grows disproportionately. Chamberlin observes that long-run average cost curve slopes downwards initially, primarily for two reasons: i increased specialisation made possible in general by the fact that the aggregate of resources is larger and ii qualitatively different and technologically more efficient units of factors, particularly machinery, made possible by a wise selection from the greater range of technical possibilities opened up by the greater resources. The short-run is the time period during which production cannot be fully adjusted to meet a change in demand because some of the factors cannot be varied. In either case the rate of decrease or increase of costs is slower than file rates in the short run because fixed costs play a more important part in the short run. By the long period, we mean the period during which the size of the firm can be altered.
In , a cost curve is a graph of the as a function of total quantity produced. They will produce a wide variety of different goods and can face the situation where demand for a particular product declines. The positively-sloped portion reflects diseconomies of scale or decreasing returns to scale. When this stage comes the average cost begins to rise. For further increases in production beyond this minimum, marginal cost is above average costs, so average costs are increasing as quantity increases. Economists who hold this view think that the decreasing returns to scale or rising long-run average cost is actually a special case of variable proportions with entrepreneur as the fixed factor.
Diseconomies of Scale : Diseconomies of scale will set in at some stage in title growth of the firm and result in rising per unit costs. For instance, the large firm can afford to employ specialist sellers and buyers which will give great advantages. This implies that all factors can be adjusted in the long-run in such a way that the proportions between them always remain optimum. The equipment can be adjusted to the output. Atc average total cost cost quantity; Avc variable Afc fixed quantity why the average curve is u shaped atc vertical sum of afc and avc. But if demand changes it may be necessary to increase or decrease his output and he may consider it desirable to alter his scale of production.
Another group of economies referred to as external economies of scale are generated not as a result of the growth of the firm, but as a consequence of the concentration and growth of an industry within an area. This is because of the fact that the output of 200 units, the cost per unit is lowest with plant size 1, which the smallest plant of the all. Why is the average total cost curve u shaped in oxford referenceeconomics help. They sometimes get these loans at lower rates of interest owing to confidence of the bank in their ability to repay. The average total cost curve is u shaped. It slopes downwards in the initial stages but thereafter rises slowly. Because the wage rate w is assumed to be constant the shape of the variable cost curve is completely dependent on the marginal product of labor.