Question

Part I: Using a well labeled graph and words that explain your graph, show the short run average variable cost curve and the marginal cost curve. Explain the shapes of the two cost curves. Where do the two cost curves intersect? Why?

Answer 1

Average variable cost (AVC/SRAVC) (which is a short-run concept) is the variable cost (typically labor cost) per unit of output: SRAVC = wL / Q where w is the wage rate, L is the quantity of labor used, and Q is the quantity of output produced. The SRAVC curve plots the short-run average variable cost against the level of output and is typically drawn as U-shaped.

A short-run marginal cost (SRMC) curve graphically represents the relation between marginal (i.e., incremental) cost incurred by a firm in the short-run production of a good or service and the quantity of output produced. This curve is constructed to capture the relation between marginal cost and the level of output, holding other variables, like technology and resource prices, constant. The marginal cost curve is usually U-shaped. Marginal cost is relatively high at small quantities of output; then as production increases, marginal cost declines, reaches a minimum value, then rises.

Moreover when MC is below AVC, MC pulls the average down. When MC is above AVC, MC is pushing the average up; therefore MC and AVC intersect at the lowest AVC.