Run Average Cost Curves Steeper Downward Side.

¶ … run average cost curves steeper downward side. Discuss fully.

Discuss why some long-run average cost curves are steeper on the downward side than others. Discuss fully.

The Long Run Average Cost (LRAC) curve of a firm "shows the minimum or lowest average total cost at which a firm can produce any given level of output in the long run (when all inputs are variable)" (A firm's long run average cost curve, 2001, Think Economics). A firm desires to maximize its profits and minimize its input costs, and thus strives to find the most profitable point of equilibrium on the curve. Unlike in a short-run cost curve, in which a firm is assumed to be constrained in its choices to minimize the costs of production, over the long-term a firm has more discretion to make better choices regarding its input costs. Costs such as labor can also vary over time, so the LRAC gives a more complete picture of the firm's ability to be profitable.

In the short run, because of the firm's limited ability to alter the factors contributing to the costs of production, "average total cost decreases due to increasing marginal returns and increases due to decreasing marginal returns and the law of diminishing marginal returns" (LRAC, 2011, Amos Web). For example, it is very difficult to build a new production facility in the short run, or to hire and train new workers, so existing equipment will eventually become too expensive to operate or overtime pay will become too burdensome. The value gained from producing more will not result in more profits for the firm.

But in the long run, the firm is assumed to not be subject to the law of marginal utility. "Instead long-run average cost is affected by increasing and decreasing returns to scale, which translates into economies of scale and diseconomies of scale" (LRAC, 2011, Amos Web). Larger firms can make more of a product, while expending similar costs as a smaller firm on maintain factory equipment. "Any firm that fails to exploit economies of scale will have higher average costs than those of competing firms that do; firms that are too small for efficient operation must either grow or fail. Many people think that bigger firms can almost always produce at lower costs than smaller firms. While it is true that a firm must be large enough to exploit all feasible economies of scale, bigger plants may encounter diseconomies of scale and be forced to reduce the scope of their operations or sink" (LRAC, 2008, Economicae). The relative steepness of the curve reflects the fact that after a certain point, maximization of increasing output is no longer profitable for the firm and it can no longer exploit economies of scale. The steepness will vary depending upon the good or service produced by the firm and other external and internal factors that have an impact on costs of production.