Long run

As already mentioned all the factors of production are considered as variable in the long run. In the short run, a firm can increase output only by increasing its use of a variable factor. But in the long run, all factors are variable, so the firm can expand the use of all of its factors of production.

Costs in the Long Run

In the long run all costs are variable, so we do not distinguish between total variable cost and total cost in the long run: total cost is total variable cost.

Long Run cost curve

The Long Run Average Cost, LRAC, curve of a firm shows the minimum or lowest average total cost at which a firm can produce any given level of output in the long run (when all inputs are variable). It is assumed that the firm has chosen the optimal factor mix, for producing any level of output. The costs it shows are therefore the lowest costs possible for each level of output.

Relationship between short run cost curve and long run cost curve

The diagram shows how a firm’s LRAC curve is derived.

Suppose a firm produces LCD televsions using capital and labor. In the short run, the firm might be limited to operating with a given amount of capital; it would face one of the short-run average total cost curves shown in the diagram.  If it has 30 units of capital, for example, its average total cost curve is ATC30. In the long run the firm can examine the average total cost curves associated with varying levels of capital. Four possible short-run average total cost curves for Lifetime Disc are shown in diagram below, for quantities of capital of 20, 30, 40, and 50 units.

The relevant curves are labeled ATC20, ATC30, ATC40, and ATC50 respectively. The LRAC curve is derived from this set of short-run curves by finding the lowest average total cost associated with each level of output. Again, notice that the U-shaped LRAC curve is an envelope curve that surrounds the various short-run ATC curves. With the exception of ATC40, in this example, the lowest cost per unit for a particular level of output in the long run is not the minimum point of the relevant short-run curve.

It is important to note, however, that this does not mean that the minimum points of each short-run ATC curves lie on the LRAC curve.