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CA Foundation · Business Economics · Theory of Production and Cost

When a firm expands from short run to long run operations, it can adjust all factors of production. How does the long-run average cost curve typically relate to short-run average cost curves?

The long-run average cost curve is the lower envelope of short-run average cost curves. It touches each short-run curve at the optimal plant size for that output level and lies on or below all short-run curves, representing the most efficient production method available.

  1. AThe long-run AC curve is always above all short-run AC curves because long-run operations are less efficient
  2. BThe long-run AC curve touches and envelopes the short-run AC curves, lying on or below them at all output levelsCorrect
  3. CThe long-run AC curve and short-run AC curves are identical because costs behave the same way in both periods
  4. DThe short-run AC curve slopes downward while the long-run AC curve only slopes upward

Explanation

The long-run AC curve is the envelope of short-run AC curves. For any output level, the firm chooses the short-run plant size that minimizes cost, making the long-run AC curve tangent to (touching) the relevant short-run AC curve, and lying below or equal to all others. The long-run curve is not above (option 0), not identical (option 2), and both can have downward and upward portions (option 3).

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