Average Fixed Cost vs Marginal Cost
Average Fixed Cost and Marginal Cost are two Production & Costs concepts in AP Economics that students often mix up. Average Fixed Cost is the fixed cost per unit of output produced. Marginal Cost is the additional cost incurred by producing one more unit of output. Here is how they compare side by side.
It is found by dividing total fixed cost by quantity of output. Since fixed costs do not change with output, average fixed cost continuously declines as output increases.
It is calculated as the change in total cost divided by the change in quantity. Marginal cost typically decreases at first due to increasing marginal returns, then rises due to diminishing returns.
Average Fixed Cost vs Marginal Cost: A Settled Bill and a Live Decision
| Average Fixed Cost | Marginal Cost | |
|---|---|---|
| What it answers | How much fixed cost each unit already made is carrying | What the next unit adds to total cost |
| Fixed cost content | Entirely fixed cost | None, because fixed cost does not change when output changes |
| How you compute it from a table | Divide across the row, total fixed cost over quantity | Subtract down the column, the change in total cost over the change in quantity |
| Direction as output rises | Falls at every output | Falls, then rises once diminishing marginal returns set in |
| Effect of a lump-sum tax or a rent increase | Rises at every output | Unchanged |
| Effect of a per-unit tax | Unchanged | Rises by the amount of the tax at every output |
| Role in choosing output | None | Set against marginal revenue to find the profit-maximizing quantity |
A lump-sum tax moves average fixed cost and leaves output exactly where it was
Run that same firm at a price of 75. It produces while marginal cost stays at or below the price, so it makes 4 units, where marginal cost is 72, and stops before the fifth, where marginal cost is 94. Revenue is 300, total cost is 276, and profit is 24. Now impose a license fee of 8 that the firm owes no matter how much it makes. Fixed cost becomes 68, average fixed cost at 4 units rises from 15 to 17, and average total cost rises with it. Marginal cost does not move at all, so the firm still stops at 4 units and profit falls to 16, lower by exactly the fee. Replace that fee with a tax of 8 per unit and the picture changes completely. Marginal cost becomes 58, 48, 62, 80 and 102, the fourth unit now costs 80 to make against a price of 75, and the firm cuts back to 3 units. The two charges are not interchangeable even though both raise cost. Free-response questions lean on this constantly: a fixed charge shifts average total cost up and leaves quantity untouched, while a per-unit charge moves marginal cost and therefore moves quantity.
One is a share of history, the other is the price of the next decision
Fixed cost in the short run is already committed. Rent on a signed lease, an insurance premium and interest on equipment already bought are owed whether the firm makes 5 units or 500. Average fixed cost is a bookkeeping share of that committed amount, and dividing a settled number among units does not make it relevant to the next choice. Marginal cost is the opposite kind of number, since every dollar in it is a dollar the firm avoids by not making the unit. That is why the profit rule sets marginal revenue against marginal cost with no fixed term anywhere in it, and why the same firm shuts down in the short run only when price falls below average variable cost. A calculation trap follows. Given a table of quantity and total cost, marginal cost is the difference between two rows, not a row divided by its quantity. A student who divides total cost by output has computed average total cost and labeled it marginal cost, and because both numbers are plausible in size the error survives all the way to the answer. Subtract down the column, never divide across it, and check the mechanics at /calculate/marginal-cost.
Frequently asked questions
Does marginal cost include fixed cost?
Marginal cost includes no fixed cost at all. Marginal cost measures the change in total cost when output rises by one unit, and fixed cost does not change with output, so it contributes nothing to that change. Computing marginal cost from total cost and computing it from total variable cost give identical answers, which is the clearest proof that the fixed component drops out of the arithmetic.
Does a lump-sum tax change a firm's profit-maximizing quantity?
A lump-sum tax leaves the profit-maximizing quantity unchanged, because it raises fixed cost without touching marginal cost. Average fixed cost and average total cost both shift up, profit falls by the amount of the tax, and the output where marginal revenue equals marginal cost stays exactly where it was. A per-unit tax behaves differently, raising marginal cost at every output so that the firm produces less.
Why does average fixed cost fall while marginal cost eventually rises?
Average fixed cost falls because a total fixed cost that never changes is being divided by a growing quantity. Marginal cost rises for an unrelated reason. With at least one input fixed, extra units of the variable input eventually add less output than the previous unit did, so each additional unit of output absorbs more variable input and costs more. Two different mechanisms, two curves moving in opposite directions over most of the range.
Live Production Costs graph. Drag the curves, or open the full version.
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