Note on Graphical Representation of Short Run Costs

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Graphical Explanation of Total Cost Curves

Figure: TFC, TVC and TC
                                         Figure: TFC, TVC, and TC
 

 

In the above figure, cost and output are measured along X-axis and Y-axis respectively. TFC is the total fixed cost curve sloping parallel to the X-axis. This slope of TFC indicates that the TFC remains constant at all level of output. TFC is constant at the beginning. It starts from a point on the Y-axis indicating that TFC will be incurred even if the output is zero. TVC is the total variable cost curve. It slopes upward left to right, as inverse S-shaped. This slope of TVC curve shows that the total variable cost increases initially at a decreasing rate as the total output increases and subsequently it increases at an increasing rate with the increase in the output. Also note that the TVC curve starts from the origin, which shows that, when the output is zero, the total variable cost is also zero.

Similarly, TC is the total cost curve. It is formed by the vertical summation of TFC curve and TVC curve. It can be observed that: initially, TC curve does not start from the origin.

  • TC curve does not start from the origin.
  • It starts from the point where the cost is 100 because, at zero output, the total cost equals the fixed cost and TVC equals to zero.

The shape of TC curve is the same as that of the TVC curve, ( i.e. upward slope, left to right, as inverse S – shaped ). Like the TVC curve, TC curve also indicates that TC increases at a diminishing rate initially and increases at an increasing rate later as the output increases. The vertical distance between TVC and the X-axis and the TC and TFC are equal.

 

Why does the TC curve or TVC curve slope upward, left to right, as inverse ‘S’ shaped?

The behavior of the TC curve or TVC curve follows directly from the law of variable proportions. This productivity and cost are two sides of the same coin. Higher productivity implies lower cost and vice versa. The total variable cost or total cost increases first at a diminishing rate due to the application of increasing returns and then at an increasing rate due to the application of diminishing returns. Therefore, TC curve or TVC curve slopes upwards, left to right, as inverse S-shaped due to the operation of a law of variable proportions.

 

Figure: Average and Marginal costs
                        Figure: Average and Marginal costs
 
In the above figure, cost and output are measured on the Y-axis and the X-axis respectively. AFC is the average fixed cost curve sloping downward, left to right, forming a rectangular hyperbola. This slope of the AFC curve indicates that the average fixed cost falls continuously with increase in output. However, AFC falls at a higher rate initially and at a lower rate later. AVC is the average variable cost curve. It is U-shaped. This slope indicates that it falls initially as the output increases, and after a point, it reaches a minimum at the OQ level of output. Finally, it starts to rise as the output increases. In other words, the AVC curve is negatively sloping initially due to the operation of the law of increasing returns (i.e. average product increases), and it is positively sloping at a later stage due to the operation of a law of diminishing returns (i.e. average product decreases). Therefore, it follows:
  • When average product rises, AVC falls.
  • When an average product reaches a maximum, AVC is minimum.
  • When a product falls, AVC rises.

AC is the average cost curve. It is formed by the summation of the AFC curve and the AVC curve. Therefore, at each level of output, the AC curve lies above the AVC curve, equal to the value or height of the AFC curve. But AC curve tends to come closer to the AVC curve at high levels of output because the average fixed cost accounts for a relatively small percentage of the average cost. It should be noted that the AC curve never touches the AVC curve because the average fixed cost is always positive. The slope of the AC curve is U-shaped.

Why AC curve slopes U-shaped?

Ans: AC is the average cost curve. Average cost is the outcome of total cost divided by the total produced quantity. The AC curve is U-shaped. This indicates that the average initially, reaches the minimum point, and then starts rising as the output increases. A firm’s average variable cost curve is related or linked to its average product curve. It is due to the operation of the law of variable proportions in the short run production function. When the law of increasing returns operates in production, the average product increases and becomes maximum, and the average cost falls and reaches a minimum. But when the law of diminishing returns operates in production, the average product decreases and the average cost rises. Therefore, the shape of the average cost curve follows the law of variable proportions. The relationship between AP and AC can be present in the figure below. The shape of AC (i.e. U-shaped) is also determined by the trend of AFC and AVC.

Relationship of AC with AP and MC with MP
Relationship of AC with AP and MC with MP
 

Why is MC U – Shaped?

Ans: MC is the marginal cost curve. Marginal cost explains us how total cost changes as total product changes. A firm’s marginal cost refers to the change in total cost that results from a one-unit increase or addition in total product. It can be derived from the TVC curve. It is also U – Shaped. This indicates that as output increases, it falls initially, reaches the minimum, and then starts rising. It owes to the operation of the law of variable proportions since the marginal cost varies inversely with the marginal product. A firm’s marginal cost curve is related or linked to its marginal product curve. Thus, as per the law of variable proportions the marginal product rises first (or marginal cost falls), reaches a maximum (or MC reaches a minimum), and then decreases (or MC rises). The relationship between MP and MC has been explained by the figure mentioned above.

 

Reference

Koutosoyianis, A (1979), Modern Microeconomics, London Macmillan

  • TFC is the total fixed cost curve sloping parallel to the X-axis.
  • TVC is the total variable cost curve. It slopes upward left to right, as inverse S-shaped.
  • TC is formed by the vertical summation of TFC curve and TVC curve.
  • AFC is the average fixed cost curve sloping downward, left to right, forming a rectangular hyperbola.
  • AVC is the average variable cost curve. It is U-shaped.
  • AC is formed by the summation of the AFC curve and the AVC curve.
  • TFC is the total fixed cost curve sloping parallel to the X-axis.
  • TVC is the total variable cost curve. It slopes upward left to right, as inverse S-shaped.
  • TC is formed by the vertical summation of TFC curve and TVC curve.
  • AFC is the average fixed cost curve sloping downward, left to right, forming a rectangular hyperbola.
  • AVC is the average variable cost curve. It is U-shaped.
  • AC is formed by the summation of the AFC curve and the AVC curve.
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