Cost Contd Supplementary

Cost Contd Supplementary

Cost (cont�d) Supplementary and prime costs are an alternative classification which to a large extent overlaps fixed and variable costs. In some textconsumeraffairs.org.uk s no attempt is made to distinguish between the two pairs. Broadly, supplementary cost refers to the costs of staying in business, even if output were zero. Prime cost refers to the direct expenses incurred in producing output: they thus cover variable costs plus that part of fixed cost that might be avoided by not producing the output. Supplementary costs are the remainder of fixed costs. The distinction between prime and supplementary costs, as between fixed and variable cost, is not absolute, but varies with the organization of the firm. The essence of the distinction is that, however distinguished, prime costs are those that revenue must cover if output is to continue: if they were consistently not covered it would be more profitable to keep plant idle or to close down.

Average cost refers to the cost per unit of output; hence it is sometimes referred to as unit cost. It consists of avenge fixed cost plus avenge variable cost. Average fixed cost will fall as output expands. Average variable cost may fall, remain constant or increase as output expands, depending on the technical conditions of production. Economic theory relating to factor combination suggests that average variable cost will first fall and eventually rise. Thus average (total) cost can similarly be assumed first to fall and then to rise as output expands. In the long run, when all factors and costs are assumed to be variable, the sane sequence of fall and rise is presumed for long-run avenge costs, because of the increasing and decreasing returns to scale.

Marginal cost refers to the additional cost of increasing output by a small amount, say one unit. Since fixed cost by definition does not change with output, marginal cost refers to the change in total variable cost as output changes. It will in practice be the behaviour of marginal cost that determines the course of average variable cost and thus average total cost, for if the additional cost of additional output is rising it will be dragging average variable cost up too, although more slowly. This relationship is easy to see in terms of cricket scores: a better-than-average cricket score will drag up the seasonal average. A falling marginal cost will thus pull average variable cost down too.

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