1. Long-Run Costs
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ACDC Leadership 2015

2. 2010 Question 19
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3. Definition of the “Short-Run”
We will look at both short-run and long-run production costs.
Short-run is NOT a set specific amount of time.
The short-run is a period in which at least one resource is fixed.
Plant capacity/size is NOT changeable
In the long-run ALL resources are variable
NO fixed resources
Plant capacity/size is changeable
Today we will examine LONG-run costs. 3
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4. Definition and Purpose of the Long Run
In the long run all resources are variable. Plant capacity/size can change.
Why is this important?
The Long-Run is used for planning. Firms use to identify which plant size results in the lowest per unit cost.
Ex: Assume a firm is producing 100 bikes with a fixed number of resources (workers, machines, etc.).
If this firm decides to DOUBLE the number of resources, what will happen to the number of bikes it can produce?
There are only three possible outcomes:
Number of bikes will double (constant returns to scale)
Bikes will more than double (increasing returns to scale)
Bikes will less than double (decreasing returns to scale)
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5. ***Firms want to MINIMIZE ATC
Long Run ATC
What happens to the average total costs of a product when a firm increases its plant capacity?
Example of various plant sizes:
I make porch swings out of my garage with one saw
I rent out building, buy 5 saws, hire 3 workers
I rent a factory, buy 20 saws and hire 40 workers
I build my own plant and use robots to build swings
I build plants in every major city in the U.S.
***Firms want to MINIMIZE ATC
Long Run ATC curve is made up of all the different short run ATC curves of various plant sizes. 5
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6. Any number of short-run optimum size cost curves can be constructed
Long-Run ATC Curve
ATC-1
ATC-5
ATC-2
ATC-3
ATC-4
Average Total Costs
Output
Any number of short-run optimum
size cost curves can be constructed
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7. The long-run ATC curve just “envelopes” the short run ATCs
Average Total Costs
Output
The long-run ATC curve just
“envelopes” the short run ATCs
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8. Long Run AVERAGE Total Cost
Costs
Economies of Scale
Constant Returns to Scale
Diseconomies of Scale
Long Run Average Cost Curve
, , ,000,0000
Quantity Cars 8
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9. Long Run Production Cost
Why do economies of scale occur?
Labor specialization
Managerial specialization
Efficient capital
Why do diseconomies of scale occur?
Difficulty in communicating and coordinating
Workers can feel less attached/motivated
Constant Returns to Scale
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10. Long-run ATC curve where economies
Long-Run ATC Shapes
Economies
Of Scale
Constant Returns
To Scale
Diseconomies
Of Scale
Average Total Costs
Long-Run
ATC q1 q2
Output
Long-run ATC curve where economies
of scale exist
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11. Long-run ATC curve where costs are lowest only when large numbers are
Long-Run ATC Shapes
Economies
Of Scale
Diseconomies
Of Scale
Average Total Costs
Long-Run
ATC
Output
Long-run ATC curve where costs are
lowest only when large numbers are
participating
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12. Long-Run ATC Shapes Long-run ATC curve where economies
Of Scale
Diseconomies
Of Scale
Long-Run
ATC
Average Total Costs
Output
Long-run ATC curve where economies
of scale exist, are exhausted quickly,
and turn back up substantially
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13. Industry Structure Minimum efficient scale (MES) Natural monopoly
Minimum level of output necessary to minimize LRATC
Natural monopoly
One large firm
Pure Competition
Many small firms
Monopolistic Competition
Some small, some large firms
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