AVERAGE TOTAL COST: Total cost per unit of output, found by dividing total cost by the quantity of output. When compared with price (per unit revenue), average total cost (ATC) indicates the per unit profitability of a profit-maximizing firm. Average total cost is one of three average cost concepts important to short-run production analysis. The other two are average fixed cost and average variable cost. A related concept is marginal cost.Average total cost is the total cost per unit of output incurred when a firm engages in short-run production. It can be found in two ways. Because average total cost is total cost per unit of output, it can be found by dividing total cost by the quantity of output. Alternatively, because total cost is the sum of total variable cost and total fixed cost, average total cost can be derived by summing average variable cost and average fixed cost. In general, average total cost decreases with additional production at relatively small quantities of output, then eventually increases with relatively large quantities of output. This pattern is illustrated by a U-shaped average total cost curve. Average total cost, when combined with price, determines per unit profit or loss that a profit-maximizing firm receives from short-run production. If price is greater than average total cost, then the firm receives positive economic profit per unit. If price is less than average total cost, the firm incurs a loss, or negative economic profit, per unit. If price is equal to average total cost, then the firm is just breaking even, receiving neither a per unit profit nor incurring a per unit loss. Calculating Average Total CostThe standard method of calculating average total cost is to divide total cost by the quantity, illustrated by this equation:An alternative specification for average total cost is found by summing average variable cost and average fixed cost: An alternative equation computes total cost from average total cost:
Stuffed Animal Cost
Deriving average total cost is as simple as dividing the second column of total cost values by the first column of output quantity values. The average total cost of producing 1 Stuffed Amigo is relatively easy--divide $8 by 1 Stuffed Amigo. If the result of this calculation is not readily obvious, click the [One] button. The average total cost of two Stuffed Amigos might be a little less obvious, but not much. Click the [Two] button to reveal that the average total cost is $5.50, which is $11 divided by 2 Stuffed Amigos. A click of the [Three] shows that the average total cost of producing 3 Stuffed Amigos is $4.33, $13 divided by 3. The remaining average total cost values can be displayed by clicking the [Remaining] button. With all numbers displayed, what interesting insight into average total cost can be had?
The Average Total Cost Curve
The key feature of this average total cost is the shape. It is U-shaped, meaning it has a negative slope for small quantities of output, reaches a minimum value, then has a positive slope for larger quantities. This U-shape is indirectly attributable to the law of diminishing marginal returns. While it would be easy to attribute the U-shape of the average total cost curve to increasing, then decreasing marginal returns (and the law of diminishing marginal returns), such is not completely true. While the law of diminishing marginal returns is indirectly responsible for the positively-sloped portion of the average total cost curve, the negatively-sloped portion is attributable to increasing marginal returns, and perhaps more importantly to declining average fixed cost. Check Out These Related Terms... | average cost | average total cost curve | average fixed cost | average variable cost | average fixed cost curve | average variable cost curve | total cost | total cost curve | variable cost | fixed cost | marginal cost | Or For A Little Background... | opportunity cost | production | production cost | business | factors of production | microeconomics | short-run production analysis | law of diminishing marginal returns | marginal returns | marginal analysis | average product | And For Further Study... | total variable cost | total variable cost curve | total fixed cost | total fixed cost curve | total cost and marginal cost | total cost curves | total variable cost and total product | legal business organizations | firm objectives | opportunity cost, production possibilities | profit | economic profit | accounting profit | normal profit | accounting cost | profit maximization | long-run average cost | U-shaped cost curves | Recommended Citation: AVERAGE TOTAL COST, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2024. [Accessed: September 23, 2024]. |