This Chart Demonstrates That The Marginal Cost

Introduction

In economics, marginal cost is the change in the total cost of producing one additional unit of a good or service. It is a crucial concept for businesses and policymakers to understand, as it helps them make informed decisions about pricing, production, and resource allocation. In this article, we will explore a chart that demonstrates how marginal cost can affect a company’s profitability and market competitiveness.

The Chart

The chart we will be examining is a simple line graph that shows the relationship between a company’s production level and its marginal cost. On the X-axis, we have the number of units produced, while the Y-axis represents the marginal cost of producing each unit. The line on the graph shows how the marginal cost changes as production levels increase.

Low vs High Marginal Cost

As you can see from the chart, the marginal cost starts off low when production levels are low. This is because the fixed costs associated with starting production are spread out over a smaller number of units, making each unit cheaper to produce. However, as production levels increase, the marginal cost begins to rise. This is because the fixed costs are being spread out over a larger number of units, making each unit more expensive to produce.

The Importance of Marginal Cost

Understanding marginal cost is essential for businesses because it helps them determine the optimal production level that maximizes their profits. If a company produces too few units, they may not be able to take advantage of economies of scale and may miss out on potential profits. On the other hand, if they produce too many units, their marginal cost may be too high, making it difficult to sell the product at a competitive price.

Real-World Examples

To illustrate how the concept of marginal cost works in the real world, let’s look at a couple of examples:

Example 1: The Fast-Food Restaurant

Imagine you own a fast-food restaurant that specializes in burgers. You know that your fixed costs, such as rent, utilities, and salaries, total $10,000 per month. You also know that the variable costs, such as ingredients and packaging, total $1 per burger. Using the chart above, you can see that the marginal cost of producing each burger starts off low but increases as production levels rise. Let’s say you sell your burgers for $5 each. If you sell 1,000 burgers in a month, your total revenue will be $5,000. However, your total cost will be $11,000 (fixed costs of $10,000 plus variable costs of $1,000), resulting in a loss of $6,000. On the other hand, if you sell 5,000 burgers in a month, your total revenue will be $25,000. However, your total cost will be $15,000, resulting in a profit of $10,000. This demonstrates the importance of finding the optimal production level that maximizes your profits.

Example 2: The Car Manufacturer

Now imagine you are the CEO of a car manufacturer. You know that your fixed costs, such as factory construction, equipment, and salaries, total $1 billion. You also know that the variable costs, such as materials and labor, total $20,000 per car. Using the chart above, you can see that the marginal cost of producing each car starts off low but increases as production levels rise. Let’s say you sell your cars for $30,000 each. If you produce 10,000 cars, your total revenue will be $300 million. However, your total cost will be $1.2 billion (fixed costs of $1 billion plus variable costs of $200 million), resulting in a loss of $900 million. On the other hand, if you produce 100,000 cars, your total revenue will be $3 billion. However, your total cost will be $3 billion, resulting in a break-even point. This demonstrates the importance of finding the optimal production level that allows you to break even and remain competitive in the market.

Conclusion

In conclusion, understanding marginal cost is crucial for businesses and policymakers to make informed decisions about production, pricing, and resource allocation. The chart we examined in this article demonstrates how marginal cost can affect a company’s profitability and market competitiveness. By finding the optimal production level that maximizes profits, businesses can stay competitive and grow in the long run.