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5. Costs in the short run versus in the long run Ike’s Bikes is a major...

5. Costs in the short run versus in the long run

Ike’s Bikes is a major manufacturer of bicycles. Currently, the company produces bikes using only one factory. However, it is considering expanding production to two or even three factories. The following table shows the company’s short-run average total cost (SRATC) each month for various levels of production if it uses one, two, or three factories. (Note: Q equals the total quantity of bikes produced by all factories.)

Number of Factories

Average Total Cost

(Dollars per bike)

Q = 75

Q = 150

Q = 225

Q = 300

Q = 375

Q = 450

1 110 80 60 80 120 180
2 145 100 60 60 100 145
3 180 120 80 60 80 110

Suppose Ike’s Bikes is currently producing 450 bikes per month in its only factory. Its short-run average total cost is

per bike.

Suppose Ike’s Bikes is expecting to produce 450 bikes per month for several years. In this case, in the long run, it would choose to produce bikes using   .

On the following graph, plot the three SRATC curves for Ike’s Bikes from the previous table. Specifically, use the green points (triangle symbol) to plot its SRATC curve if it operates one factory (SRATC1SRATC1); use the purple points (diamond symbol) to plot its SRATC curve if it operates two factories (SRATC2SRATC2); and use the orange points (square symbol) to plot its SRATC curve if it operates three factories (SRATC3SRATC3). Finally, plot the long-run average total cost (LRATC) curve for Ike’s Bikes using the blue points (circle symbol).

Note: Plot your points in the order in which you would like them connected. Line segments will connect the points automatically.

SRATC1SRATC2SRATC3LRATC075150225300375450525200180160140120100806040200AVERAGE TOTAL COST (Dollars per bike)QUANTITY (Bikes)

In the following table, indicate whether the long-run average cost curve exhibits economies of scale, constant returns to scale, or diseconomies of scale for each range of bike production.

Range

Economies of Scale

Constant Returns to Scale

Diseconomies of Scale

More than 300 bikes per month
Between 225 and 300 bikes per month
Fewer than 225 bikes per month

Solutions

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