Question

Exercise 4.2.2 In Figure E.4.1, we see the long-run average cost for the production of a good, LRAC. Figure E.4.1 LRAC a) In the short run, capital is a fixed cost. Draw, for a few different values of K, what the short-run average cost, SRAC, looks like in relation to the long-run average cost. b) Sometimes, one talks of (dis-) economies of scale. What in the graph indicates whether we have economies or diseconomies of scale?

Answer 1

Exercise 4.22. a In the following figure, a few Short Run - Average cost Cures are also drawn SRAC 1 SR Senega v ELRAC. inte at In the short ron, capital is a fixed cost For SRACI, the fixed it fall in the average fixed I cost (AFC) is more than the rise in the average w o variable cost (Ave), at the point of inters where SRAC 1 is tangent to LRAL. For SRAĆ 2, the fall in the AFC is dominated by the w rise in Ave', at the point is where ŠRAC2 Hangent to LRAC.. 7 PAULA pas betwee and hence, y l a FOR SRACB, the fall in the AFC is exactly equal to the rise in Ave, at the point of tangency per between SRACE and ĻRAC : SRALI, SRACR and SRAC3 has three different levels of Average fixed cost and hence, they are evaluated at three different levels of capital. (K) [Note : Average Fixed Cost (of capital or any other input) W fixed cost in Quantity of capital for any U other input) l. 10.

LRAC 9. In the above diagram, if the relevant part of LRAC is the region between M and N, then me have economies of scale, ie, the region where LRAC is falling corresponds to economies of seate.. On the other hand, if the relevant part of the LRAC wone is the region between N and Orie, where the long-run average cost is increasing, then me would have disecomomies of seale. [Eunomies of scale is the region where average cost is der er falling, and they correspond to factors which make it possible for larger organizations or Lountries. to produce goods or services åt à more Cheap rate than smaller ones. Economies of seally which are internal to firm, are mainly due to indivisibilities and the division of labovř. na 19 sini Diseconomies of seale is the region where average cost is increasing with increase in quantity produced, and they correspond to arise when a firm poo duces beyond the minimum point of the LRACThis causes the average cost of each successive unit of output to increase has been | At point N, the region on the LRAL eurue corresponds to constant returns to scale, where Here is neither economies nor direivonues of scale and the cost I remains unchanged.) morte cost