Long Run Average Cost (LRAC)

ByYavish

Long Run Average Cost (LRAC) is the per unit cost of production when all factors of production are variable (i.e., the firm can adjust the scale of all inputs).

  • It shows the lowest possible average cost at which a firm can produce any level of output when it can change the size of all its inputs.
  • The LRAC curve is often called the planning curve because it helps firms plan the most efficient scale of production in the long run.

Characteristics of LRAC:

  • The LRAC curve is typically U-shaped.
  • The downward-sloping part reflects increasing returns to scale or economies of scale (cost per unit falls as output rises).
  • The flat or minimum point shows constant returns to scale (cost per unit is constant as output changes).
  • The upward-sloping part reflects decreasing returns to scale or diseconomies of scale (cost per unit rises as output increases).

Difference Between LRAC and SRAC:

  • LRAC: All inputs are variable; firm chooses optimal scale.
  • Short Run Average Cost (SRAC): At least one input is fixed; costs may be higher due to fixed constraints.

Why LRAC is Important:

  • Helps firms decide the optimal size of production facilities.
  • Guides decisions on expansion or downsizing.
  • Influences long-term competitive strategy and pricing.

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