Marginal costs are usually different for various volumes of production because the efficiency of the production process changes. At the enterprise, marginal costs decrease with increasing output. For instance, it is more profitable for the company to produce 51 refrigerators than just one.
Explanation:
Marginal costs are the company expenditures for the manufacturing of an additional unit of production, the increment of the total cost of producing an extra unit of production in the cheapest way. Each company aims at maximizing profits and, accordingly, bears the expenses acquiring production factors. Nevertheless, the desire to achieve the production level of a given volume is envisaged with the lowest costs.
Generally, marginal costs can characterize both a change in total expenses and aggregate variable costs. Fixed costs, which are part of the total expenditures, do not vary with a change in output (in the short term), and, therefore, do not affect marginal costs. It should be born in mind that the shift in variable costs affects. The marginal cost formula is as follows:
МС = TC/Q, where TS – growth in total costs; Q – increase (change) in the quantity of output.
For example, we calculate marginal costs if there has been a change in variable expenses from 1200 to 1400 dollars, while the volume of production has enhanced from 390 units to 420 units. According to the above formula, we get the following expression:
МС = (1400–1200) / (420–390) = 200/30 = 6.67, where the marginal cost equals to 6.67 dollars.
Thus, the calculation of marginal cost makes it possible to determine the degree of production benefit of each additional commodity unit. Likewise, the marginal cost is an essential economic tool that determines the strategy of industrial growth and development. The level of marginal costs allows business people to define the quantity of output at which the company needs to stop to get the maximum amount of profit.