A firm will have increasing returns to scale if the output increases more than the proportionate increase in the inputs. If the change in the firm's input leads to more production than the changed input, it is increasing returns to scale. If the output is less than the input in the changed input of the firm, it is decreasing returns to scale.
Initially firm produces 150,000 bushels of crop and after doubling the inputs the firm produced 325,000 bushels of crop. The increase in the output is more than that of proportionate increase in the inputs.
Therefore, firm has an increasing return to scale considering an increase in the output at increasing rate.
Average variable cost is calculated by considering the total variable cost and the quantity. Marginal variable cost is equal to change in total variable cost divided by change in the quantity. The following is a measurement of average variable cost and marginal variable cost.
In the above table, one has calculated the AVC and MVC with the help of given information. Both AVC and MVC increase as the quantity of production increases.
The following is graphical representation of the average variable cost, total variable cost, and marginal revenue cost curves.
In the above diagram, one has taken quantity on x-axis and TVC, AVC, and MVC on the y-axis. TVC slopes upward to the right because variable cost increases as output increases. AVC and MVC are constant at initial stage and then both slopes upward.
Marginal cost is equal to marginal fixed cost plus marginal average cost. Marginal fixed cost are always zero, therefore the marginal variable cost equals marginal cost. Symbolically,
Therefore, marginal cost is equal to marginal variable cost.
Average cost is equal to total cost divided by the total quantity of the firm. Total wage of two labors are $40,000 (
), total rent is $45,000 (
Thus, the total cost is $85,000 (
The total quantity is 150,000 bushels. Thus, the average cost of 150,000 bushels is $0.56
If the input doubles, then total wage of two labors are $80,000 (
), total rent is $90,000 (
The total cost is $170,000
). The total quantity is 325,000 bushels. Thus, the average cost of 325,000 bushels is $0.52
this lower average cost indicates the increasing returns to scale.