Relation between average cost and marginal cost

There is an important relation between the average cost and marginal cost curves. The relation is shown in table and in graph.

Tabular representation

Units of Output	Total Cost	Marginal Cost	Average cost AC = TC / Q
0 1 2 3 4 5 6 7 8	10 20 28 34 38 42 48 56 72	- 10 8 6 4 4 6 8 16	∞ 20 14 11.3 9.5 8.4 8 8 9

Graphical representation

average cost

From the above table and graph following observations can be made between AC and MC

Marginal Cost

Marginal cost is the change in total cost when additional unit of output is produced.

As said by Ferguson “Marginal cost is the addition to total cost due to the addition of one unit of output.”

Symbolically,

MC_n = TC_n – TC_n-1 OR

MC = Change in total cost / Change in output

MC_n = Marginal cost of ‘n’ units of output

TCn = Total cost of ‘n’ units of output

TC_n-1 = Total cost of ‘n-1’ units of output

Tabular representation of calculating MC

Units of Output	Total Fixed        Cost	Total  Variable         Cost	Total Cost	Marginal Cost
0 1 2 3 4 5 6 7 8	10 10 10 10 10 10 10 10 10	0 10 18 24 28 32 38 46 62	10 20 28 34 38 42 48 56 72	- 10 8 6 4 4 6 8 16

Average Cost Curves

Average Cost is the cost per unit of output produced. It is also called unit cost of production.

Average cost = Total cost / Output

AC = TC / Q

Calculating AC when Total Cost is given

Units of Output	Total Cost	AC = TC/ Q
0 1 2 3 4 5 6	10 20 28 34 38 42 48	∞ 20 14 11.3 9.5 8.4 8

Corresponding to three types of total cost in the short run, there are three types of average cost:

1) Average Fixed cost

2) Average Variable cost

3) Average total cost

Average Total Cost is the sum total of average Fixed cost and average variable cost.i.e.

AC = AFC + AVC

Short Run Costs

Short run is the period of time during which some factors are fixed and some are variable.

Short run costs are divided into two components:

1) Fixed costs

2) Variable costs

Total Cost = Total fixed cost + Total variable cost

i.e. TC = TFC + TVC

Fixed Cost :

Fixed costs are the sum total of expenditure incurred by the producer on the purchase or hiring of fixed factors of production.

These are also called supplementary costs  or overhead costs or  indirect costs.

These costs do not change with the change of output, even when output is zero, fixed cost remains the same.

For example: In a shoes manufacturing firm, a machine is installed as a fixed factor.

If it can make 10 pair of shoes a day and that the cost of hiring the machine is Rs. 100 per day.

So Rs. 100 per day is the fixed cost that the producer has to incur even when no shoes is made in a day.

The fixed cost would remain Rs. 100 (between 0 to 10 shoes a day).

Stages of Production

The behaviour of output in terms of TP, AP and MP on account of increasing variable input is divided into three stages, as shown in the graph below:

Stages of Production

Stage I : Stage of increasing returns

1) Starts from the point of origin and continues till the AP is maximum at point A

2) TP is increasing throughout the first stage.

Till point M(point of infexion) increasing at increasing rate and after point M increasing at decreasing rate till point A.

3) MP rises first, reaches the maximum at point M and then it starts falling, but is positive throughout.

Till point M has the positive slope and after that negative slope.