Question

In the long run, when increasing returns to scale operates, _______.

• A. the average cost rises as the firm increases output
• B. the average cost falls as the firm increases output
• C. average cost remains constant as long as CRS operates
• D. none of the above

Answer 1

Answer: (B)

the average cost falls as the firm increases output

In the long run the firm benefits from both internal and external economies of scale. These are of two types internal and external. The firm benefits from internal economies by expanding operations and it benefits by external economies when the industry expands. These economies of scale bring cost advantages, as they have the effect of lowering the firm's average cost of production. As the long run average cost falls by increasing all inputs to produce more output this is referred to as increasing returns to scale.