Economics Test Solutions Assignment
1. Explain the impact the law of diminishing marginal returns has on both marginal cost and average total cost.
The law of diminishing marginal returns states that as we increase more units of one variable input factor of production to constant amounts of the other factors of production, the total output will first increase in the short-run period and the decrease in the long-run period.
2. Marginal cost
The law of diminishing marginal returns increases the marginal costs of production (Sraffa, 2012, p.216). When one variable factor of production, say labor, is increased while capital is kept constant, production increases in the short-run period. However problems like workers crossing one another’s way arise in future and this leads to inefficiency in production. Marginal costs increase in the long run period as extra products cost of production increases.
3. Average Total Cost
The law of diminishing marginal returns increases the average total cost due to the fact that the average total cost increases with the increase in marginal cost. Average total cost is the dividend of the total cost of production and the total produced items. Inefficiencies resulting from increase in one variable factor of production makes the production cost of extra products to rise above the average total and leads to increase in average costs.
4. With the aid of a diagram explain the long run average cost curve and the influences upon it.
LRAC=Long run average cost
A long run average cost curve results from the firm growth due to economies and diseconomies of scale. The curve is U-shaped. It composes many U-shaped curves that reflect the firm performance at different sizes. (Kirzner, 2014, p.60) explains economies of scale as the cost benefits enjoyed by a business organization when it engages itself in large scale production. Diseconomies of scale refer to the cost demerits associated with small scale production.