Question

The reason of U shape of LRAC curve is ____.

• A. because it moves as LRMC
• B. because LRMC is also U shaped
• C. a typical firm IRS is observed at the initial level of production. This is then followed by the CRS and then by the DRS
• D. both A and B

Answer 1

The correct option is C a typical firm IRS is observed at the initial level of production. This is then followed by the CRS and then by the DRS

The long run average cost curve takes a U shape to illustrate how average cost initially decreases due to economies of scale while the firm experiences increasing returns to scale. Then it exhibits constant returns as the firm operates at its optimal size. Lastly if the firm tries to expand more than its optimal point, due to diseconomies of scale while the firm experiences decreasing returns to scale and average cost increases.