Question

Figure 1 contains the long-run average cost curve facing a firm.

Figure 1
Table 2a contains last year’s production and marketing costs for two products when two firms produce each product separately.
Table 2a
Product
Output
Manufacturing
Marketing
A
100
$5,000
$250
B
200
$16,000
$800
Table 2b contains the production and marketing costs for the two products for the upcoming year when one firm produces them.
Table 2b
Product
Output
Manufacturing
Marketing
A
150
$6,000
$300
B
200
$16,000
$640
1) Using the following figure to answer below
When output is between 20 and 40, the firm is experiencing
a. diseconomies of scale.
b. economies of scale.
c. constant returns to scale.
2) The firm experience economies of scale when output is
a. Between 10 and 20
b. Between 40 and 50
c. between 10 and 50
d. Between 20 and 40

Answer 1

When output is between 20 and 40, the firm is experiencing economies of scale. A firm is experiencing economies of scale when its long-run average cost (LAC) declines as output (production) expands. When production costs per unit of output decrease as the firm expands its scale of operations, economies of scale arise.

1. This results in an increase in profits for the firm as the firm lowers the costs of production for each unit. The firm's ability to increase its scale of operations is demonstrated by a downward sloping LAC curve that hits the minimum efficiency scale (MES) at Q1 (Figure 1). The MES is the production level at which LAC is at its minimum point.

2. The firm experiences economies of scale when output is between 20 and 40. When the long-run average cost (LAC) curve is declining as the output is increasing, a company is experiencing economies of scale. The most cost-effective output level occurs when the LAC curve intersects the minimum efficient scale (MES) of output.

Here, the MES for product B is around 20 units, and the MES for product A is around 30 units. As a result, the firm experiences economies of scale when output is between 20 and 40. Economies of scale are a concept that refers to the reduction of production costs and the development of improved efficiency as the scale of production increases.