![]() ![]() The reason is that average total cost includes average variable cost and average fixed cost. Note that at any level of output, the average variable cost curve will always lie below the curve for average total cost, as shown in Figure 7.4. For example, the variable cost of producing 80 haircuts is $400, so the average variable cost is $400/80, or $5 per haircut. At the right side of the average cost curve, total costs begin rising more rapidly as diminishing returns kick in.Īverage variable cost obtained when variable cost is divided by quantity of output. But as output expands still further, the average cost begins to rise. ![]() In the average cost calculation, the rise in the numerator of total costs is relatively small compared to the rise in the denominator of quantity produced. Average total cost then declines, as the fixed costs are spread over an increasing quantity of output. Average total cost starts off relatively high, because at low levels of output total costs are dominated by the fixed cost mathematically, the denominator is so small that average total cost is large. Average cost curves are typically U-shaped, as Figure 7.4 shows. Since the total cost of producing 40 haircuts is $320, the average total cost for producing each of 40 haircuts is $320/40, or $8 per haircut. The marginal cost curve is upward-sloping.Īverage total cost is total cost divided by the quantity of output. Marginal cost (MC) is calculated by taking the change in total cost between two levels of output and dividing by the change in output. The average variable cost curve lies below the average total cost curve and is typically U-shaped or upward-sloping. ![]() Average variable cost (AVC) is calculated by dividing variable cost by the quantity produced. The average total cost curve is typically U-shaped. Average total cost (ATC) is calculated by dividing total cost by the total quantity produced. The information on total costs, fixed cost, and variable cost can also be presented on a per-unit basis. These new measures analyze costs on a per-unit (rather than a total) basis and are reflected in the curves shown in Figure 7.4. The first five columns of Table 7.3 duplicate the previous table, but the last three columns show average total costs, average variable costs, and marginal costs. The breakdown of total costs into fixed and variable costs can provide a basis for other insights as well. When a firm looks at its total costs of production in the short run, a useful starting point is to divide total costs into two categories: fixed costs that cannot be changed in the short run and variable costs that can be changed. However, the cost structure of all firms can be broken down into some common underlying patterns. A list of the costs involved in producing cars will look very different from the costs involved in producing computer software or haircuts or fast-food meals. The cost of producing a firm’s output depends on how much labor and physical capital the firm uses. ![]()
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