Economic costs usually encompass the expenses attributed to the alternative chosen and costs specific to the forgone opportunity. Before a firm makes any economic decision, it needs to take into consideration the series of components of economic costs. These include total cost (TC), variable cost (VC), total variable cost (TVC), fixed cost (FC), total fixed cost (TFC), average cost (AC), average fixed cost (AFC), average variable cost (AVC), marginal cost (MC), and cost curves. This paper distinguishes the short-run from the long-run and describes the relationship between the average and marginal cost curves.
Distinguishing between the Short Run from the Long Run
Firms often accumulate long-run costs when they change production levels over time, taking into account the profit or losses that are expected to be made. In the long run, fixed factors of production such as land, labor, and capital goods tend to vary to enable a company to reach the long run cost of goods or services production. The long-run is identified as a planning and implementation stage for most of the producers. In this stage, producers tend to analyze both the present and future projected state of the global market, to make effective decisions that could enable a firm to produce the desired quantity of goods at lowest possible costs. These long-run decisions significantly impact a firm’s costs, and they include decisions such as a firm entering or withdrawing from the global market and expanding or decreasing the number of goods or services production (Peer et al. 3).
Short-run costs are the expenses accumulated in real time by a firm throughout the entire production process. Short run costs are majorly affected by fixed and variable costs and revenues accumulated throughout the short run production. Variable cost is believed to change with an enterprise’s output, and they include the cost of raw materials, as well as, employee wages. As such, if a firm effectively manages the short-run costs throughout the short run production, it is more likely that the firm would achieve its desired goals and long-run costs. The main difference between the short run and long run costs is that short run includes fixed factors of production, while the long run does not include the fixed factors of production. In the short run, no adjustment attributed to the condensed period is witnessed for the contractual wages, a firm’s expectations, and the general goods and services price level. On the other hand, in the long run, the variables tend to adjust fully (Jose Maria, Bloom, and Wright 20).
Cost curve: This graph shows the relationship that exists between the short run and long run costs.
Cost curve: Short run and long run costs
Cost curve: Relationship between long run and short run costs
The Relationship between the Average Cost and Marginal Cost Curves
The average cost is identified as the total cost of production divided by the number of goods produced by a firm. It can be influenced by the period of production. Average cost significantly influences the supply and demand of a firm’s products in the market. Marginal cost is described as the change in the total cost when the quantity of desired goods produced changes by a unit. It includes the costs that vary with the level of a firm’s production (Abbink and Brandts 23).
Figure 1: the relationship between average cost, marginal cost, and marginal revenue.
Cost curve: Relationship between marginal cost and average cost
Cost curve: Marginal cost, average cost, average fixed cost, and average variable cost.
Marginal and average total cost (ATC) reflect a general relationship that also holds for marginal cost and average variable cost (AVC) (Kesicki and Ekins 222). According to the graph:
If MC>AVC, the average cost increases
If MC< AVC, the average cost declines
If MC=AVC, the average cost stays the same (at minimum or maximum)
For a firm to become successful in the global market, it needs to set more realistic long-run cost expectations. Moreover, short-run costs determine how the firm can also achieve its desired production and financial goals. Effectively handling average and marginal costs also determine the success of a given firm.
Abbink, Klaus, and Jordi Brandts. “24. Pricing in Bertrand competition with increasing marginal costs.” Games and Economic Behavior 63.1 (2008): 1-31, http://brandts.iae-csic.org/docs/brandts/24-32july2006.pdf
Barrero, Jose Maria, Nicholas Bloom, and Ian Wright. Short and long-run uncertainty. No. w23676. National Bureau of Economic Research, 2017., https://www.nber.org/papers/w23676.pdf
Kesicki, Fabian, and Paul Ekins. “Marginal Abatement Cost Curves: A Call for Caution.” Climate Policy 12.2 (2012): 219-236., https://www.tandfonline.com/doi/abs/10.1080/14693062.2011.582347
Peer, Stefanie, et al. “Long-run vs. short-run perspectives on consumer scheduling: Evidence from a revealed-preference experiment among peak-hour road commuters.” (2011): 3., https://www.econstor.eu/bitstream/10419/87344/1/11-181.pdf