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CA Foundation · Business Economics · Theory of Production and Cost

The long-run average cost (LRAC) curve of a firm is often described as an 'envelope curve'. This is because it:

The LRAC is called an envelope curve because it wraps around and touches every short-run average cost curve from below. At each output it shows the lowest cost attainable once all inputs, including plant size, can be adjusted.

  1. ALies above all short-run average cost curves at every output level
  2. BIs drawn by joining the minimum points of all short-run average cost curves
  3. CTouches each short-run average cost curve from below, showing the lowest possible cost of producing each output when all inputs can be variedCorrect
  4. DIs always a horizontal straight line cutting every short-run average cost curve

Explanation

Each short-run average cost curve corresponds to a fixed plant size. The LRAC shows the minimum cost of each output when the plant can be changed, so it is tangent to and lies on or below each SAC curve. Joining the SAC minimum points is wrong because tangency generally occurs away from the minimum points except at the optimum scale.

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