Question

What is the distinction between fixed costs and variable costs in the short run? Why is this distinction important?

Answer 1

Fixed cost does not change with change in output level. Firm has to bear fixed cost in short run even if it shuts down operation.

While variable cost refers to the cost that changes with change in output level. it becomes zero when firm stops producing output. Such distinction is important in short run but over the long run, fixed cost disappears.

Firm takes output decision based on the variable cost not the fixed cost. Hence, firm must have information about the variable cost if it wants to decide whether to continue producing or stop operation.