Question

6. Costs in the short run versus the long run Ike's Bikes is a major manufacturer of bicycles. Currently, the company produces bikes using only one factory. However, it is considering expanding production to two or even three factories. The following table shows the company's short-run average cost each month for various levels of production if it uses one, two, or three factories. (Note: equals the total quantity of bikes produced by all factories.) Average Cost Dollars per bike) Q=200 400 480 560 Q-400 400 320 320 Q-500 560 480 400 Q-600 800 660 520 Q-300 Q=100 520 660 800 Number of Factories 320 320 400 Suppose Ike's Bikes is currently producing 100 bikes per month in its only factory. Its short-run average cost is per bike. Suppose Ike's Bikes is expecting to produce 100 bikes per month for several years. In this case, in the long run, it would choose to produce bikes using one factory On th plot the three short-run n average cost (SRAC) curves for Ike's Bikes from the table. Specificafly, use the green points previous two factories t its short-run average cost if it operates one factory (SRAC); use the purple points (diamond symbol) to piot its short-run three factories two factories (SRAC); and use the orange points (square symbol) to plot its short-run average cost if it operates three factories (SRAC). Finally, plot the iong-run average cost (LRAC) for Ike's Bikes using the blue points (circle symbol). Note: Plot your points in the order in which you would like them connected. Line segments will connect the points automatically

Answer 1

1) If 100 bikes have been produced using 1 factory then AC is 520

2) For several years if only 100 units have to be produced then it would cost efficient to use only one factory because at 100 output only one factory has minimum AC.

3) Consider the following graph:

1facctory AC is short run AC when only 1 factory is used. SImilarly 2Factories AC and 3Factories AC are short run avergae costs curves when 2 and 3 factories are used respectively. Long run AC can be formed by matching the lowest points of all short run average cost curves.

4) At decreasing return to scale with increase in output the average cost increases. As you can see that in lng run AC curve (purple colored curve) the curve is upward slopping from 400 units to end. From beginning till the point where it reaches 300 it is decreasing (increasing return to scale). after 300 it is constant till 400 and then increases after 400.

LRACs0o 600 500 ー! Factory AC -2 Factories AC --3 Factories AC --LRAC 400 300 200 100 100 200 300 400 500 600 Output

Thus increase in AC occur after 400 bikes.

option first (more than 400 bikes per month) is correct.