Final answer:
Cost behavior is considered linear when a straight line accurately represents the relationship between cost and activity. Average and marginal cost curves are U-shaped due to economies and diseconomies of scale affecting costs as production levels change. These cost measures are essential for businesses to make production and pricing decisions.
The correct option is 1.
Step-by-step explanation:
Understanding Cost Behavior and Relationships
Cost behavior is considered linear when a straight line is a reasonable approximation for the relation between cost and activity. This occurs under option 1) When a straight line is a reasonable approximation for the relation between cost and activity. The average and marginal cost curves tend to have a U-shaped curve because they reflect increasing and then decreasing economies of scale followed by diseconomies of scale.
Initially, as production increases, the firm becomes more efficient, spreading the fixed costs over more units (decreasing average cost). However, as production continues to rise, the firm experiences constraints, like limited machinery or labor efficiency, leading to higher costs for additional units (increasing marginal and average costs).
The insights from these cost measures, such as marginal cost, average total cost, and average variable cost, are vital for firms to make informed production and pricing decisions.
The correct option is 1.