When marginal costs are below average total costs, average total costs must be falling.
The correct answer and explanation is:
The statement is true. When marginal costs (MC) are below average total costs (ATC), average total costs will be falling.
Explanation:
To understand why this is the case, let’s break down the concepts:
- Marginal Cost (MC) is the additional cost incurred by producing one more unit of output.
- Average Total Cost (ATC) is the total cost of production divided by the number of units produced. It reflects the per-unit cost of production.
When MC is below ATC, it means that producing an additional unit costs less than the average cost of producing all previous units. This has the effect of pulling the average cost down, reducing the ATC.
The relationship between MC and ATC can be visualized as follows:
- If MC < ATC, the ATC curve will slope downward. This is because the extra cost of producing the next unit (MC) is lower than the current average, so it “drags” the ATC down.
- If MC > ATC, the ATC curve will slope upward, indicating that producing more units is becoming increasingly expensive, raising the average cost.
- When MC = ATC, the ATC is at its minimum point. This is where the cost of producing an additional unit is exactly equal to the average cost of production, and the ATC curve flattens out.
Thus, when the marginal cost is below the average total cost, the cost of producing one more unit is less than what it costs, on average, to produce all previous units. This pulls the average total cost down, causing it to decrease. Hence, the ATC must be falling when MC is below it.