Question

5. Costs in the short run versus in 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 total cost (SRATC) each month for various levels of production if it uses one, two, or three factories. (Note: Q equals the total quantity of bikes produced by all factories.)

Number of Factories	Average Total Cost
	(Dollars per bike)
	Q = 25	Q = 50	Q = 75	Q = 100	Q = 125	Q = 150
1	440	320	240	320	480	720
2	580	400	240	240	400	580
3	720	480	320	240	320	440

Suppose Ike’s Bikes is currently producing 125 bikes per month in its only factory. Its short-run average total cost is

per bike.

Suppose Ike’s Bikes is expecting to produce 125 bikes per month for several years. In this case, in the long run, it would choose to produce bikes using   .

On the following graph, plot the three SRATC curves for Ike’s Bikes from the previous table. Specifically, use the green points (triangle symbol) to plot its SRATC curve if it operates one factory (SRATC1); use the purple points (diamond symbol) to plot its SRATC curve if it operates two factories (SRATC2); and use the orange points (square symbol) to plot its SRATC curve if it operates three factories (SRATC3). Finally, plot the long-run average total cost (LRATC) curve 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.

SRATC1SRATC2SRATC3LRATC0255075100125150175800720640560480400320240160800AVERAGE TOTAL COST (Dollars per bike)QUANTITY (Bikes)

In the following table, indicate whether the long-run average cost curve exhibits economies of scale, constant returns to scale, or diseconomies of scale for each range of bike production.

Range	Economies of Scale	Constant Returns to Scale	Diseconomies of Scale
Between 75 and 100 bikes per month
Fewer than 75 bikes per month
More than 100 bikes per month

Answer 1

When Ike's bike is producing 125 bikes per month using one factory, its short run average total cost is $480.

In the long run it would choose, 3 factories.

reason- When 125 bikes are produced using one factory, average cost is 480

But in the long run minimum cost is used, so 3 factories will be needed.

● Between 75-100 bikes= Constant returns to scale

● Fewer than 75 bikes= Economies of scale

● More than 100 bikes = Diseconomies of scale