7.10 : Short-run vs Long-run: Average Costs

In the short run, firms cannot adjust the quantity of certain factors of production, like capital and technology. However, firms can change the quantity of other factors, such as labor and raw materials.

Conversely, in the long run, firms have the flexibility to adjust the expenses incurred with all inputs. This flexibility enables them to achieve economies of scale and optimize production processes. As a result, long-run average costs tend to be lower, as firms can adapt to changing market conditions more efficiently.

The shape of the short-run average cost (SRAC) curve typically exhibits a U-shape, indicating that average costs initially decrease with increased production before eventually rising. This U-shaped curve reflects the presence of input limit optimization.

On the other hand, the long-run average cost (LRAC) curve often displays a downward-sloping trend over a wider range of output levels. This shape suggests that firms can achieve economies of scale and increase efficiency by adjusting all inputs. However, beyond a certain output level, LRAC may eventually begin to increase due to diseconomies of scale.

Comparing these two curves provides valuable insights into production efficiency and a firm's optimal scale of operations.